*3741 1. The determination of fair market value is largely a matter of judgment and various theories of valuation are useful only in so far as they support a result that comports with sound judgment.
2. When evidence of subsequent experience is before us which conclusively demonstrates the unsoundness of theoretical computations of value as of an antecedent date, it is unreasonable to expect that such evidence will be disregarded and full approval given to the theoretical calculations.
3. Respondent's valuation of gravel deposits approved.
*701 In this proceeding the petitioner seeks a redetermination of the income and profits-tax liability for the year 1918, for which the Commissioner has determined a deficiency in the sum of $7,974.76. The petitioner alleges error on the part of the Commissioner (1) in the determination of the value at March 1, 1913, of its mineral deposit and the depletion based thereon, and (2) in refusing to compute its excess-profits*3742 tax for the year 1918 under the provisions of sections 327 and 328 of the Revenue Act of 1918.
FINDINGS OF FACT.
The petitioner is a corporation organized in 1908 under the laws of the State of Ohio, with principal offices in Youngstown, and is engaged in the production of steel molding sand, sand-blast sand, and gravel. During 1908 and 1909 it acquired the following properties:
| Date. | Name of tract. | Description. | Area in | Cost. | Content. |
| acres. | |||||
| Sept. 12, 1908 | Tilden farm | Lot 40 | 30.00 | ||
| Do | d0 | Lot 46 | 40.00 | $6,139.24 | Sand. |
| Do | Hunt farm | Lot 45 | 59.00 | 2,255.92 | Do. |
| Do | Bancroft farm | do | 105.00 | 5,949.62 | Do. |
| Do | Force farm | do | 105.00 | 5,232.80 | Do. |
| Do | Merwin farm | do | 20.00 | ||
| Do | do | Lot 46 | 103.00 | 8,363.29 | Do. |
| Do | Steele farm | Lot 90 | 115.23 | 1,600.00 | None. |
| Do | Bristol farm | Lot 45 | 0.68 | 202.00 | Do. |
| Do | Stoder farm | do | 77.63 | 3,800.00 | Sand. |
| Aug. 31, 1909 | Bristol farm | Lot 99 | 42.57 | 2,100.00 | None. |
| Sept. 13, 1909 | L. Cushman farm | Lot 100 | 39.67 | 1,000.00 | Do. |
| Do | McPeek farm | do | 47.00 | ||
| Do | do | Lot 45 | 16.00 | 2,500.00 | Do. |
| Do | J. Hunt farm | Lot 41 | 1.00 | ||
| Do | do | Lot 45 | 1.00 | 500.00 | Do. |
| Do | J. H. Winfield farm | Lot 99 | 36.5 | 1,250.00 | Do. |
*3743 The aggregate cost of all the property was $40,892.87 and the cost of the property containing deposits was $31,740.87. It was known that only about half the property contained sand and gravel, but all the land was necessary to the operation of the sand and gravel deposits. The sand and gravel was found in a bed of conglomerate averaging 20 feet in thickness with an average overburden of approximately 18 inches.
The property was acquired for the purpose of supplying the Youngstown and Cleveland markets with sand and gravel for use in making concrete. It was soon found impossible to operate the property profitably for that purpose and other uses for the material were sought. No conglomerate deposits of this character had been operated prior to this time and the other commercial uses for which the products were adapted were not known. In the latter part of 1909 the petitioner entered upon a program of experimentation in an effort to determine the most advantageous outlet for the materials which *702 could be produced. In that year it made a special size sand for setting unburned brick in kilns and also a sand-blast sand, but production of the latter product by the method*3744 then employed proved unsuccessful.
The petitioner continued its experiments through the years 1910 and 1911. In 1911, as a result of changes made in its equipment, it succeeded in producing a satisfactory sand-blast sand. In the meantime its brick setting sand had been offered to the steel foundries for use in steel molding, for which purpose it proved satisfactory. It was established in 1911 that the petitioner could produce satisfactory steel molding sand and sand-blast sand, but alterations, replacements and additions to its plant and equipment were necessary before economical production could occur.
In the winter of 1909-1910 the plant was rebuilt, and in the winter of 1910-1911 the machinery was rearranged, a larger and different type of screen was installed and other new equipment added.
The discovery in 1911 of the adaptability of this property to the production of steel molding sand and sand-blast sand disclosed a favorable prospect for future operations. The property was readily accessible to the consuming market for these products, being 88 miles from Pittsburgh, 41 miles from Cleveland, and about 30 miles from Sharon and Alliance. The principal consumers of*3745 these products were the steel foundries and manufactories, the bulk of which were located in the Pittsburgh district. The chief source of supply for this material at that time was the Massillon district of Ohio and the western Pennsylvania district. The petitioner had an advantage of 30 cents per ton in freight rates over Massillon into Pittsburgh, and some advantage in rates into Cleveland and Sharon, but was at a disadvantage into Alliance.
In the summer of 1911, petitioner caused a topographical survey of the property to be made for the purpose of ascertaining the recoverable tonnage of conglomerate available, and the most desirable location for a new plant. Plans for a new plant were prepared contemplating an expenditure of approximately $150,000 in addition to equipment of the old plant but the plan was abandoned because of inability to obtain the necessary funds. In lieu thereof the old plant, situated one and a half miles from the deposit, was further remodeled and enlarged during the winter of 1911-1912. At that time petitioner's liabilities, exclusive of capital stock, totaled $305,395.64, consisting of:
| Bills payable | $96,595.64 |
| Bonds | 58,900.00 |
| Preferred stock | 49,900.00 |
| Mortgage | 100,000.00 |
*3746 *703 Prior to March 1, 1913, the petitioner believed that its products were superior in some respects to other sands but it was not definitely established until after that date. The advantages which petitioner's molding sand was subsequently proved to have were that it is of a harder and coarser grain than other sands, has a high silica content, fuses only at very high temperature, and vents freely. It is known as an "open sand," that is, it allows the steam that forms in the mold to pass off with little or no artificial ventilation. Unlike other molding sands, it has no natural bond, hence by use of an artificial bond evenly mixed more uniform results can be obtained in molding steel castings. It does not quickly wear out in handling and peels freely from the castings, resulting in a cleaner casting. In 1912 or 1913 the consumption of steel-molding sand was 1,200 pounds of new sand for each ton of castings. This amount has been gradually reduced by better foundry practice. The consumption of petitioner's molding sand per ton of castings is less than other sands, but this fact was not ascertained until 1918 when it appeared that only 400 pounds of its sand were consumed*3747 for each ton of castings. It also appeared at that time that the foundries were able to rework its sand to a greater extent than other sands. In 1912 petitioner's molding sand sold at prevailing market prices, but in 1913 it sold at $1 per ton while other sands sold at 80 cents per ton. Petitioner's sand-blast sand was of a harder, sharper grain, cut faster and had a higher percentage of recovery than the sand-blast sand of its only competitor. In 1912 and at March 1, 1913, it sold for $2.25 per ton and that of its competitor at $1.25 per ton.
On January 10, 1912, petitioner contracted to supply the National Malleable Castings Co., one of the five largest manufacturers of steel castings in the country, with its requirements of molding sand during the year, to a maximum of 30,000 net tons, and as much more as was required and petitioner could produce, at 65 cents per ton f.o.b. cars at petitioner's plant. Petitioner delivered 23,000 tons on this contract, no more being called for. On November 2, 1912, petitioner contracted to supply the same company with its molding sand requirements for the year 1913, to a maximum of 30,000 net tons, and as much more as was required and could*3748 be produced, at $1 per ton f.o.b. cars at petitioner's plant. Only 15,000 tons were delivered on this contract. During 1912 petitioner supplied small quantities of molding sand to ten additional customers, and refused to accept orders from several large molding-sand consumers (the prices or terms of such proffered orders not appearing). The capacity of the plant in 1912 was approximately 100,000 tons of conglomerate. Of each ton of conglomerate worked 40 per cent was steel-molding sand, 30 per cent was sand-blast sand and 30 per cent was gravel, all salable.
*704 At March 1, 1913, petitioner's plant had been electrified and enlarged to a capacity of 200,000 tons per year on an operating basis of a 10-hour day. The operating year was approximately 200 days per year, the plant being closed down for the winter months. Capacity production of 200,000 has never been reached. The maximum production in any one year was 181,600 tons in 1923. The actual production from 1912 to 1924, inclusive, was:
| Year. | Tons. |
| 1912 | 100,192 |
| 1913 | 103,648 |
| 1914 | 104,686 |
| 1915 | 91,281 |
| 1916 | 143,835 |
| 1917 | 161,430 |
| 1918 | 156,126 |
| 1919 | 87,300 |
| 1920 | 167,065 |
| 1921 | 88,025 |
| 1922 | 180,260 |
| 1923 | 181,600 |
| 1924 | 148,100 |
*3749 During the year 1912 and in all the period of development, 1909 to 1914, the petitioner employed the same labor upon both production and plant construction, and the entire labor cost was charged against production. The cost of production and the operating profit in 1912 shown by the books, as adjusted by petitioner on the basis of one day's labor costs, were 74 cents per ton and 24 cents per ton, respectively. The net profit shown by petitioner's income-tax return for 1912, without deducting interest, depreciation, and losses, was $9,919.71 on a production of 100,192 tons. The average sale price of the products of a ton of conglomerate from 1913 to 1917, inclusive, was $1.20.
At March 1, 1913, there were 6,000,000 tons of recoverable conglomerate in the deposits upon petitioner's property. At that date the capacity of the plant was 200,000 tons per year. The useful life of the gravel deposits on March 1, 1913, was 30 years. The fair market value of the sand and gravel properties or deposits on March 1, 1913, did not exceed $300,000. The reasonable allowance for the depletion of the deposits is 5 cents per ton of conglomerate.
OPINION.
VAN FOSSAN: After consideration*3750 of the record in this case we find no error in respondent's determination.
The sand and gravel-bearing lands were bought by petitioner in 1908 and 1909 for approximately $32,000 with the purpose of producing therefrom and selling sand and gravel for use in making concrete. For whatever reason, this use proved unprofitable and petitioner turned to the production of sand for steel molding and sand-blast purposes. Petitioner remodeled its plant for the new production and in 1912 in furtherance of this program attempted *705 to borrow $100,000 for the erection of a new plant. The effort was unsuccessful, although petitioner offered a mortgage on its property as security. At March 1, 1913, the superior qualities of petitioner's products were not established and its business was still in the experimental or development stage. Though petitioner's plant had a possible capacity of 200,000 tons in 1912 and 1913, the actual production in those years was approximately 100,000 tons per year, and the maximum ever produced was 181,600 tons in 1923. Petitioner's net income for 1912, before deducting depreciation, interest and losses, was $9,919.71 and for 1913 was $20,045. In 1919*3751 petitioner filed a sworn schedule of valuation in answer to a questionnaire from the Bureau of Internal Revenue, purporting to cover the years 1917, 1918, and 1919, in which it stated the value of its gravel deposit of 300 acres to be $400 per acre, or $120,000. This figure was carried over to the value assigned for its entire property of $250,000. (Petitioner's explanation that these figures were due to inadvertence or typographical errors was not at all convincing.) In this statement petitioner also stated its profit for the years 1912 to 1919, inclusive, to be 8.7 cents per ton, exclusive of depletion, and its average annual output of finished products for the years 1912 to 1919 to be 118,862 tons.
In the face of the above and other facts to the same effect contained in the record, petitioner contends that its gravel deposits had a fair market value on March 1, 1913, of at least $2,000,000. In support of this contention petitioner offered no evidence of sales of comparable property nor did it offer opinion evidence. It relied solely on an analytical appraisal based on discounted estimated future earnings. By use of the same method respondent arrived at a value of $300,000. *3752 The wide divergence in amounts is attributable to the use of different estimates and factors in the computations.
The determination of fair market value is largely a matter of judgment and the various theories of valuation are useful only in so far as they support a result that comports with sound judgment. The valuation proposed by petitioner does not satisfy this test.
Without here going into the intricate mathematical processes employed by counsel for petitioner in his brief, it is sufficient to say that in our opinion many of the estimated factors used are wholly unjustified by the record in the case and by the actual experience of the company. While in the absence of better evidence of value resort may properly be had to an analytical appraisal of estimated future earnings, the varying computations made by counsel for both parties in their briefs amply demonstrate the danger of a strict adherence to a theory of valuation in which estimated factors play such a prominent part.
*706 Illustrative of the factors employed by petitioner which are not warranted by the evidence is the use of an expected annual recovery of 300,000 tons when the plant capacity was but*3753 200,000 tons and petitioner had failed in 1912 in its efforts to finance a larger plant; also the use of an expected profit of 77 cents per ton, based on one day's operation as adjusted by petitioner's witness, when, by a simple mathematical calculation, the net profit for 1912, as shown by its tax return, is found to be approximately 10 cents per ton, and in a sworn statement petitioner stated its profits for the years 1912 to 1919 to be 8.7 cents per ton; likewise, the assumption of a demand for 300,000 tons based on trade inquiries, while actual orders were for but 100,000 tons.
In its computations petitioner has capitalized its hopes of future production rather than expectations reasonably sure of realization. To approve the value asked would require us to shut our eyes not only to the reasonable probability but the actual experience of the company, both before and after March 1, 1913. When evidence of subsequent experience is before us which conclusively demonstrates the unsoundness of a theoretical computation of value as of an antecedent date, it is unreasonable to expect that such evidence will be disregarded and full approval given to the theoretical calculation.
*3754 We are of the opinion that petitioner has failed to demonstrate that respondent's determination was in error, and the same is approved.
There being no deficiency determined for the year 1919, the appeal is dismissed so far as relates to that year. . No testimony was adduced on the issue of special assessment and it is accordingly denied.
Reviewed by the Board.
Judgment will be entered for the respondent.
GREEN, dissenting: I am unable to agree with the valuation fixed by the prevailing opinion. I feel that the proof introduced establishes a valuation much higher than that determined by the respondent.