*4061 Market price of raw cotton as used by the petitioner in valuing its inventory of raw cotton, goods in process and finished goods approved.
*646 The Commissioner determined a deficiency of $39,371.09 for the fiscal year ended September 30, 1920. The issue concerns the market value of petitioner's inventory of raw cotton, goods in process, and finished goods.
FINDINGS OF FACT.
The petitioner is a South Carolina corporation engaged in the manufacture of heavy cotton sheetings at Abbeville.
At September 30, 1920, the various grades of cotton indicated below sold at the Savannah and Augusta markets at the prices listed below:
*647
| Savannah market | Augusta market | |
| Cents | Cents | |
| White standard | 27.50 | 26.50 Middling fair. |
| 27.00 | 25.50 Strict good middling. | |
| 26.50 | 25.00 Good middling. | |
| 25.50 | 24.50 Strict midding. | |
| 24.50 | 23.50 Middling. | |
| 22.00 | 22.00 Strict low middling. | |
| 18.50 | 19.50 Low middling. | |
| 15.50 | 16.50 Strict good ordinary. | |
| 13.00 | 15.00 Good ordinary. | |
| Yellow tinge | 23.25 | 22.75 Strict good middling. |
| 22.50 | 22.00 Good middling. | |
| 21.00 | 21.00 Strict. | |
| 19.50 | 19.00 Middling. | |
| 17.50 | 17.00 Strict low middling. | |
| 14.50 | 15.00 Low middling. | |
| Yellow stained | 19.50 | 20.00 Good middling. |
| 18.00 | 19.00 Strict middling. | |
| 16.50 | 17.00 Middling. |
*4062 On September 30, 1920, the petitioner purchased a total of 30 bales of cotton from various local farmers at the following prices per pound and at an average cost of 26.7123 cents per pound:
| Number of | Price per |
| bales | pound |
| 1 | 22 1/2 |
| 2 | 25 |
| 3 | 26 1/2 |
| 2 | 26 5/8 |
| 2 | 26 3/4 |
| 12 | 27 |
| 7 | 27 1/2 |
| 1 | 27 3/8 |
On September 30, 1920, the petitioner's inventory as to pounds, as to percentage of waste, and as to manufacturing cost was the same as that disclosed on pages 1 and 2 of the statement attached to the Commissioner's 60-day letter dated December 23, 1925, or as follows:
| Raw cotton | 448,388 pounds |
| Goods in process | 241,246 pounds |
| Finished goods | 1,264,911 pounds |
| Waste | 12.09 per cent |
| Manufacturing cost per pound | 12.334463 cents |
On a yardage basis the finished goods which the petitioner had on hand on September 30, 1920, was as follows:
| Yards | |
| 40 inch sheeting, 48 X 48, 2.85 yards to the pound | 600,127 |
| 36 inch sheeting, 48 X 48, 3 yards to the pound | 2,806,783 |
| 30 inch sheeting, 48 X 48, 3.60 yards to the pound | 266,236 |
| 36 inch sheeting, 34 X 32, 3.50 yards to the pound | 142,603 |
| 3,815,749 |
The monthly sales*4063 of the petitioner for the five months preceding the end of the fiscal year in question were as follows:
| Yards | |
| May | 6,000 |
| June | 162,200 |
| July | 8,000 |
| August | 49,200 |
| September | 370,000 |
*648 The petitioner's production from May 1 to September 30, 1920, inclusive, was as follows:
| Yards | |
| May | 1,104,768 |
| June | 1,055,775 |
| July | 1,192,783 |
| August | 1,130,232 |
| September | 1,120,396 |
The grade of cotton used by the petitioner in the manufacture of its goods was between middling and strict low middling. In order to obtain the grade of cotton desired for its purpose, petitioner purchased more than one grade of cotton and mixed these different grades. The mixture desired would be produced by mixing 20 bales of middling and strict middling with 5 bales of strict low middling.
The petitioner used approximately 10,000 bales of cotton a year, and under ordinary circumstances would have on hand a three-months' supply, or approximately 2,500 bales. The cotton market began to decline in the late spring and early summer of 1920, and, consequently, petitioner did not make purchases for an advance supply to the same extent that it had heretofore, the supply*4064 of raw cotton on hand at September 30, 1920, being less than one-half the normal supply. The manufactured product on hand was, however, three or four times as large as was usually carried. The cotton market declined from 43.75 cents in July, 1920, to 11 cents in the early part of 1921.
The 30 bales of cotton hereinbefore referred to as having been purchased on September 30, 1920, were the grade known as "strict good middling." This cotton was purchased from local farmers, and was used for mixing with such lower grade of cotton as would produce the mixture required for the manufacture of petitioner's product. At least one-half of petitioner's supply of raw cotton was purchased in Abbeville, S.C., and the remainder was purchased elsewhere, Augusta and Savannah, Ga., and Greenville, S.C., being important nearby markets. The raw cotton inventory on hand at September 30, 1920, was of a lower average grade than that represented by the mixture used in petitioner's manufacturing process.
Petitioner's finished product is sold through Derring, Milliken & Co., New York City, its exclusive selling agents. The goods are invoiced to these agents, who sell for the account of the petitioner.
*4065 Petitioner, in valuing its inventory of raw material, goods in process, and finished goods at September 30, 1920, on the basis of cost or market, which ever is lower, used 22 cents as the market price of cotton, whereas the respondent used a price of 26.7123 cents. The foregoing prices were applied on a poundage basis to raw cotton, goods in process, and finished goods.
*649 OPINION.
LITTLETON: The only question at issue in this case is the valuation of petitioner's inventory of raw cotton, goods in process, and finished goods. No question is raised as to the cost to the petitioner of the material and goods in question, the parties apparently being agreed that with the rapidly declining market which prevailed during the last three months of the fiscal year in question, market was lower than cost. The parties have stipulated the unit manufacturing cost, the percentage of waste and poundage of cotton in each of the three classes of inventory items. The only remaining factor necessary to a valuation of the inventory is the market value of cotton at September 30, 1920.
The petitioner contends in its petition that its "inventories of finished goods and goods in process*4066 on hand at September 30, 1920, should be valued on the basis of not more than 20 cent cotton" and that "its inventories of raw cotton on hand at September 30, 1920, should be valued at not more than 22 cents per pound," whereas the respondent used 26.7123 cents as the market price for cotton at September 30, 1920, which market price was applied to the three classes of inventory items. In a brief submitted after the hearing, petitioner asks for a further reduction in the market price of cotton from 20 cents to 18 cents, in so far as applicable to the goods in process and finished goods.
The basis upon which the respondent determined his "market" is the average price paid by the petitioner for 30 bales of cotton on September 30, 1920. We are of the opinion that this can not be accepted as determinative of "market" to the petitioner, since these quantities were small as compared with the amounts ordinarily purchased by the petitioner, and also since the cotton represented by such purchases was of much higher grade than the average grade bought and used. Petitioner does not buy one grade of cotton which can be used to produce its product, but obtains the grade or mixture that it*4067 desires by mixing relatively high and low grades of cotton. Since the purchases used by the respondent were of much higher grade than that which is representative of the cotton on hand and used by the petitioner, the market price used by the respondent can not be sustained.
We are not convinced that the evidence justifies the conclusion that the market value of petitioner's goods in process and finished goods should be valued on the basis of using a lower price per pound for raw cotton than the prevailing market at the inventory date. Much evidence was presented for the purpose of showing that the market for petitioner's finished product was less than that which would be represented by the replacement cost at the inventory date *650 in question; that is, petitioner sought to show that the sale price of the entire amount of finished goods on hand was less than raw material and manufacturing costs necessary to produce these goods. While conditions may exist on a declining market which would justify fixing the market value of an inventory of finished goods for a manufacturing concern at what these goods could be sold for, rather than what it would cost to manufacture them, *4068 a finding to that effect can not be made in this case on the evidence presented. Most of the evidence presented as to the sale price of petitioner's finished goods was of a speculative nature, and not such as could be used to show the market for such goods on this date. Doubtless, the market at this time was in a state of rapid decline due to the unusual conditions then prevailing, but the evidence is not conclusive that by September 30, 1920, it had reached the low peak for which the petitioner contends. One of the expert witnesses who testified apparently had in mind market conditions at the time the returns were prepared about December of the same year and the other expert witness testified as to what in his judgment he might have paid for 3,700,000 yards (or approximately the entire inventory) at September 30, 1920. The testimony in both cases, as well as other evidence presented, shows little more than a rapidly declining market and the difficulty which would have been encountered in attempting to dispose of the entire quantity of goods on hand, but a market fixed on the basis thereof would be little short of a guess, or speculation.
It is noted further, that during the*4069 month of September, 1920, petitioner's sales amounted to 370,000 yards, or approximately one-tenth of its entire inventory. No evidence was offered as to the price at which these sales were made, or the condition under which the goods were sold. Actual sales and bid and quoted prices at or near the inventory date would be more helpful than evidence of the character upon which we are asked to predicate a market. Since the evidence with respect to the market prevailing for raw cotton on September 30, 1920, is definite in its nature as opposed to the general and speculative nature of the evidence for the finished goods, the Board is of the opinion that a proper valuation at market can be obtained by the determination of a replacement cost for the entire inventory, that is, "market" in the sense of what it would have cost the petitioner to have bought raw cotton on September 30, 1920, and to have manufactured the product which it had on hand on this date.
To arrive at a replacement cost for the entire inventory only one factor remains for determination, namely, market value of raw cotton, the parties having agreed upon unit manufacturing cost, percentage of waste and total poundage*4070 in the three inventory items. *651 A consideration of the entire evidence leads to the conclusion that the price of 22 cents as used by the petitioner in valuing its entire inventory is fair and reasonable and should be sustained. This takes into consideration not only the market prevailing on this date for the relatively high percentage of low-grade cotton in the raw cotton inventory and the average grade of cotton used in the petitioner's manufacturing process, but also other factors affecting the market value of the entire inventory.
Judgment will be entered on 10 days' notice, under Rule 50.