*1459 1. Upon the evidence, held, that the exclusion from invested capital, pursuant to the provisions of section 326 of the Revenue Act of 1918, of valuable intangibles developed in the petitioner's business creates an abnormality in capital within the meaning of section 327(d) of the Revenue Act of 1918, requiring that the petitioner's profits taxes for the years in controversy be determined under the provisions of section 328.
2. Respondent's claim for an increased deficiency for each of the years in controversy, predicated upon the grounds that he erred in allowing deductions for depreciation of returnable cans, and that he failed to include, in the gross income, the gains derived from sales of returnable cans, granted, upon authority of our decision in Iten Biscuit Co., Dockets 43667 and 45164, 25 B.T.A. 870">25 B.T.A. 870, decided this day.
3. Net income for 1919, as determined by the respondent in the deficiency notice, should be increased on account of real estate taxes of $3,073.87 stipulated by the parties to have been erroneously allowed as a deduction for that year.
*880 The respondent determined deficiencies in income and profits taxes for the years and in amounts as follows:
| Docket No. | Year | Deficiency |
| 16429 | 1918 | $85,967.64 |
| 20899 | 1919 | 25,488.62 |
| 1920 | 33,022.83 |
*881 The deficiency determination for 1918 arises out of the respondent's partial rejection of a claim for abatement of taxes for that year. The amended petitions set forth several assignments of error, all of which have been waived, in the brief, except the following: (1) Respondent's failure to determine the profits taxes, for all of the years in controversy, under the provisions of sections 327 and 328 of the Revenue Act of 1918, or, alternatively, that the invested capital determined by the respondent is less than the invested capital prescribed by section 326; and (2) respondent erred in his determination of the pre-war income, for the purpose of determining the profits-tax credit allowed by section 311(a) of the act. As to the second assignment of error, the respondent concedes that the correct average net income for the pre-war period is $175,718.63, instead of $169,904.85, as determined in the deficiency*1461 notice, and in its brief the petitioner indicates that the admission is satisfactory and disposes of the issue. The respondent claims an increased deficiency for each of the years in controversy, on the grounds that he erred in allowing deductions for depreciation of returnable cans, and in failing to include in gross income alleged gains derived from sales of returnable cans.
FINDINGS OF FACT.
The petitioner, a Nebraska corporation having its principal office at Omaha, was organized on July 13, 1908, by three brothers, Frank, J., John and Louis C. Iten. It is, and was during the taxable years in controversy, engaged in manufacturing and selling biscuits, cakes, cookies and crackers.
In 1892 the three Iten brothers and their fathers had established a partnership under the name of L. Iten and Sons, at Clinton, Iowa, for the purpose of carrying on the business of manufacturing and selling biscuits, cakes, cookies, and crackers. On June 25, 1894, the elder Iten having died, a corporation, hereinafter referred to as the Iowa company, was organized under the laws of Iowa, with the same name as the partnership, and succeeded to the partnership business. In 1908 the name of the*1462 company was changed to Iten Biscuit Company of Iowa.
The Iten Biscuit Company of Oklahoma, a corporation, hereinafter referred to as the Oklahoma company, was organized under the laws of Oklahoma, on September 9, 1911, with the three Iten brothers as the majority, but not the sole, stockholders. It too was *882 engaged, until 1916, in manufacturing biscuits, cakes, cookies, and crackers.
Prior to 1908 John Iten conceived and effected several improvements in the construction, machinery and manufacturing processes of cracker-baking plants. In constructing the ovens for the Iowa company at Clinton, he did not precisely follow the blue prints furnished therewith, which represented the general practice of oven construction at the time. He built air spaces in the oven walls, to better retain the heat in the ovens; and he raised or lowered the ovens and rearranged the fire boxes, to get a better bake on the crackers. He installed oven thermometers, the first to be used in the industry, for ascertaining oven temperatures; and he was the first in the industry to use thermometers for ascertaining when water for the sponge (dough) was of the proper temperature. The use of these*1463 thermometers resulted in an improved product of uniform bake. He devised a new method of removing the sponge from the fermenting troughs to the mixers. The old method was to remove the sponge by hand, requiring about one-half hour of a man's time; by the new method, the sponge was set in troughs having removable ends, on the floor, and when an end of the trough was removed the sponge flowed readily into the mixer. This new method resulted in a saving in labor and in a better product, the latter because the gas from fermentation was retained in the sponge. None of the aforementioned mechanical and process improvements were patented. He invented and obtained letters patent for what are generally known in the trade as a "pan skip" and a "peel cutter." These two inventions reduced the breakage and increased production of a cracker machine at least ten barrels of flour per day.
Louis C. Iten was generally regarded as one of the best cracker mixers in the territory served by the petitioner and the Iowa and Oklahoma companies. Prior to 1908 he conceived and effected an improvement in the process of packing crackers which resulted in a considerable saving of labor and in a considerable*1464 reduction in the breakage of products. The improvement was not patented.
John and Louis C. Iten made the cracker cutters for the Iowa plant, instead of buying them from the manufacturers of cracker machinery. One of these is known as thirteen-pin or docker cutter, which produces a much better cracker, by preventing blistering and flaking, than the nine-pin cutter, which is still being used in the industry.
All of the mechanical and process improvements and patented inventions of John and Louis C. Iten were fully developed and perfected prior to 1908, and the petitioner and the Iowa and Oklahoma companies were permitted to use them without the payment to those individuals of any compensation for such use.
*883 The territory of the Iowa company was developed by the use of general salesmen and so-called "specialty men." Each general salesman was allotted a definite territory, and was required to cover the whole of that territory within certain periods. He was required to call on every grocer within his territory and make an effort to sell a bill of goods; failing to accomplish that, in the case of a grocer not already a customer of his company, he was required to make*1465 a special call on that grocer when he made his next periodic visit to that vicinity. It was the practice of general salesmen to serve the company's established customers first, and then to call upon prospective new customers. The specialty men performed the duties of regular salesmen and, in addition thereto, they were sent out to call upon prospective new customers, to establish new accounts and, frequently, to assist the general salesmen when the latter were unable to call upon all the trade within their territories. The Iowa company also established distributing centers, called agencies, at convenient points, where it maintained office forces for the purposes of making prompt deliveries of orders and securing additional business. Generally, these so-called agencies were established at points in undeveloped territory.
About the same procedure was followed in the development of the respective territories of the petitioner and the Oklahoma company. In the case of the petitioner there were the added features of furnishing each salesman with a list of retail grocers in his territory who were entitled to credit rating, and upon whom he was required to call and, if possible, establish*1466 accounts; and of sending out girl crews of house-to-house convassers to solicit orders which were turned over to retail grocers. Sales development work continued up to 1916, the capacity of the plant being increased as the necessities of the business required. In this sales development work the petitioner distributed more liberal quantities of samples than its competitors did, because when it started business its competitors had already firmly established their highly advertised lines in the territory. As to the Oklahoma company, there was the added feature of selling its products through house-to-house canvass work and special salesmen.
General and special salesmen employed by the three companies were compensated by salary and/or upon a commission basis. All of the costs of sales development work were charged to expense by the three companies on their books. The books of account of the three companies show that the following amounts were charged to expenses, for advertising, cost of samples, selling expenses - cities, and selling expenses - country:
| Petitioner | ||||
| Year | Advertising | Cost of samples | Selling expense - cities | Selling expense - country |
| 1908 | $752.95 | $1,888.16 | $16,218.37 | |
| 1909 | 4,130.47 | 5,971.50 | 47,918.06 | |
| 1910 | 5,550.64 | 7,259.35 | 60,196.71 | |
| 1911 | 6,411.87 | $1,174.67 | 10,874.10 | 78,549.23 |
| 1912 | 7,861.83 | 941.84 | 11,302.55 | 85,533.36 |
| 1913 | 23,695.68 | 2,937.75 | 11,493.64 | 96,028.55 |
| 1914 | 24,241.81 | 3,339.50 | 16,262.30 | 109,641.48 |
| 1915 | 11,573.79 | 6,046.99 | 22,201.20 | 124,747.63 |
| Iowa Company | ||||
| 1898 | $3,812.36 | |||
| 1899 | 7,994.85 | |||
| 1900 | $427.83 | 8,972.67 | ||
| 1901 | 850.78 | 10,500.50 | ||
| 1902 | 869.25 | 11,068.10 | ||
| 1903 | 870.74 | 12,369.68 | ||
| 1904 | $211.07 | 135.71 | 7,091.00 | |
| 1905 | 124.50 | 72.29 | 9,085.20 | |
| 1906 | 296.94 | 179.73 | 13,370.43 | |
| 1907 | 267.40 | 263.24 | 20,189.45 | |
| 1908 | 808.12 | 198.10 | 22,277.07 | |
| 1909 | 2,090.71 | 212.18 | 29,182.18 | |
| 1910 | 2,000.41 | 171.54 | 34,726.54 | |
| 1911 | 2,505.83 | $136.83 | 1,397.94 | 34,478.12 |
| 1912 | 3,414.32 | 496.81 | 1,464.18 | 35,260.45 |
| 1913 | 6,024.39 | 523.23 | 3,233.06 | 34,478.51 |
| 1914 | 6,097.79 | 1,154.48 | 4,180.62 | 34,412.38 |
| 1915 | 4,709.01 | 2,352.35 | 8,650.36 | 38,430.32 |
| Oklahoma Company | ||||
| 1912 | $776.14 | $95.29 | $717.06 | $9,069.89 |
| 1913 | 9,812.99 | 1,336.15 | 3,204.65 | 38,680.54 |
| 1914 | 3,732.22 | 1,967.98 | 4,406.71 | 44,587.32 |
| 1915 | 6,206.47 | 2,600.35 | 5,705.76 | 53,108.89 |
*1467 *884 There was no change in the accounting practice after 1915 as it related to the cost of sales development work.
The gross sales of the three companies for the fiscal years, January 31, 1910, to January 31, 1916, inclusive, were as follows:
| Fiscal year | Petitioner | Iowa Company | Oklahoma Company |
| 1910 | $660,521.02 | $456,649.57 | |
| 1911 | 1,000,593.42 | 536,509.90 | |
| 1912 | 1,136,419.42 | 492,333.24 | |
| 1913 | 1,381,936.76 | 534,145.15 | $540,650.26 |
| 1914 | 1,682,637.31 | 654,862.36 | 618,692.22 |
| 1915 | 1,895,941.49 | 773,456.60 | 795,394.34 |
| 1916 | 2,096,198.15 | 832,966.62 | 1,041,100.46 |
The net tangible assets used in the petitioner's business during 1911 to 1915, inclusive, and the earnings of the business for the same period were as follows:
| Year | Tangible assets | Earnings |
| 1911 | $383,883.00 | $92,715.45 |
| 1912 | 459,995.59 | 112,208.80 |
| 1913 | 582,379.01 | 142,372.11 |
| 1914 | 753,632.22 | 206,751.56 |
| 1915 | 928,216.02 | 202,685.51 |
*885 The petitioner's gross sales subsequent to the fiscal year 1916, to and including the calendar year 1920, were as follows:
| Year or period | Gross sales |
| Fiscal year 1917 | $3,664,379.78 |
| 11 mos. to 12-31-17 | 4,391,976.36 |
| 1918 | 6,381,745.87 |
| 1919 | 6,668,689.69 |
| 1920 | 9,664,254.33 |
*1468 Upon the organization of the petitioner and the Oklahoma companies, in 1908 and 1911, respectively, the Iowa company granted to those companies, without any consideration therefor, licenses to use all the trade-marks, trade brands, formulae and secret processes owned and developed by it during the period 1894 to 1908.
In 1916 the Iowa company owned the trade-marks "Snow White Bakery" and "Fairy," which it had developed in its business. The first of these was registered in the Patent Office on July 7, 1914. It was well known throughout the Middle West, and frequently mail orders were received addressed to "Snow White Bakery," instead of Iten Biscuit Company. The trade-mark "Fairy" does not appear to have been registered; but it was developed by the Iowa company shortly after it began business. It was a trade-mark under which the company marketed a small soda cracker, and it was this product upon which the company had largely built its business. The same product, marketed under the same trade-mark, "Fairy," represented about 25 per cent of the total output of the petitioner's plant at Omaha. Both of these trade-marks were used by the petitioner and the Oklahoma company prior*1469 to 1916 without the payment of any consideration to the Iowa company for such use.
The following is a list of the trade-marks owned by the petitioner in 1916, and the date of registration thereof in the Patent Office:
| Description | Registered |
| "Tourist" | June 29, 1909 |
| Design | February 1, 1910 |
| Design | May 31, 1910 |
| "Creme Sandwich" | April 20, 1915 |
| "Echo" | October 31, 1916 |
| "Enjoya" | January 2, 1917 |
These trade-marks were also used by the Iowa and Oklahoma companies.
*886 At the hearing the parties filed a written stipulation, setting forth certain facts which they agree the Board may find, which is in part as follows:
III.In the early part of 1916, the three corporations [the petitioner, the Iowa company and the Oklahoma company] above referred to, determined to consolidate and entered into contract, a copy of which is attached hereto as Exhibit "A" and made a part of this stipulation.
While this contract provided that a new corporation was to be formed and the assets of the three corporations transferred to it, yet in order to conform to the laws of the State of Nebraska, which contains no provision for a consolidation of corporations, it*1470 was decided to increase the capital stock of the Nebraska corporation [the petitioner] instead of organizing an entirely new corporation.
There is attached hereto a true copy of the minutes of the meeting of the Board of Directors of the Iten Biscuit Co., held May 16, 1916.
There were issued 14,547 shares of Preferred Stock of a par value of $100 each to represent the purchase price of tangible assets, fixed assets being valued at cost less depreciation to March 1, 1916, and 14,979 shares of Common Stock of a par value of $100 each for good will, patents, trademarks, formulae and other intangible assets of the three companies.
At the same time, surplus of the Petitioner was credited with $407,100 for intangibles, making the total amount set up on the books of the Petitioner for intangibles $1,905,000.
Exhibit "A" - Joint Exhibit "1-A".
Agreement made this first day of March 1916, by and between Iten Biscuit Co., a corporation of Iowa, party of the first part, Iten Biscuit Co., a corporation of Nebraska, party of the second part, Iten Biscuit Co., a corporation of Oklahoma, party of the third part, and John J. Iten, Louis Iten, Frank J. Iten, all of Clinton, Iowa, *1471 O. N. Barmettler of Omaha, Nebraska, and H. F. Vories of Chicago, Illinois, as Trustees, parties of the Fourth part:
Witnesseth, that whereas the parties of the first, second and third parts are each carrying on the business of manufacturing and selling crackers, cakes and food products of a similar nature, and
Whereas considerably more than a majority of the capital stock of each of said corporations is owned by the same shareholders, and whereas the business policy of each of said companies is the same and each has been using the same trade-marks and trade-names for the product respectively manufactured and sold by them, and
Whereas legal counsel has advised that the use of trade-names cannot be maintained by joint use on the part of separate corporations without jeopardizing the exclusive right to such names, and
Whereas large economies in advertising will be effected and further economy in the use of one instead of three sets of labels, wrappings and the like and more increase in the value of trade-names will be gained by operating as one Company instead of by three separate entities:
Now, therefore, the parties of the first, second and third parts have decided to give*1472 up their separate organizations and to form one new company which is to purchase their collective business, property and good will and to that end the said parties have agreed and hereby do, each for itself, covenant and *887 agree to cause each and every one of its shareholders to assign, transfer and deliver to the parties of the fourth part all the shares of the capital stock of each of the parties of the first, second or third parts, respectively held or owned by him or her; the said parties of the fourth part to hold the same in trust for the purposes herein stated with unrestricted voting power until said Trustees are ready to deliver shares of the Capital Stock of a new corporation to be organized as hereinafter specified.
It is mutually agreed that whenever the new Corporation has been organized, each of the parties of the first, second and third parts will sell, convey, transfer and assign to such new corporation all of its property real, personal and mixed, including good will and trade-names or trade-marks, by duly executing and delivering all such conveyances, documents and writing as legal counsel will advise to be necessary or desirable, and each will do this*1473 promptly whenever requested by the parties of the fourth part or a majority of them. The new corporation will assume the indebtedness and obligations of each of said three existing corporations who are parties of the first, second and third part.
Each shareholder of the three corporations being the parties of the first, second and third part, providing he or she has assigned and delivered his or her shares of stock to the parties of the fourth part as aforesaid, will in due course receive from the said Trustees in exchange for the shares so delivered by him or her, such a number of the preferred shares of the Capital stock of the corporation to be newly organized as will represent his or her share in the net tangible assets of that one of said three companies in which he or she now is interested by the holding of shares of stock. All computations of shareholders' interest are to be based on the net tangible assets stated upon the books of each respective one of said three companies as of January 31, 1916, it being, however, understood that in case the said Trustees after reviving the books of account of said three Companies should find the existence of any material inequality*1474 in the practice of said Companies in arriving at net profits due to the use of different basic charges for Depreciation, Can Reserve and other similar accounts, the same shall be refigured so that all three will be treated as nearly alike in this respect as will seem fair and equitable. The period of time which is to govern the foregoing will be the two fiscal years ending January 31, 1916, as applied to the parties of the first and second part and the one year ending January 31, 1916, as applied to the party of the third part.
In addition to aforesaid preferred shares the said parties of the first, second and third part, collectively, will be entitled to common shares of stock of such new corporation as compensation for good-will, trade-marks and tradenames. The aggregate number of shares of common stock to which they will be entitled is to equal the total number of preferred shares which will be given for aforesaid net tangible assets, and the difference in the number which each of said parties will receive is to be due to variation in their net profits of the past. The following net profit of the three Companies, respectively, shown by their books of account, to-wit:
The*1475 average yearly profit of first party for the two fiscal years ending January 31, 1916.
The average yearly profit of second party for the two fiscal years ending January 31, 1916.
The average profit of third party for the one fiscal year ending January 31, 1916.
will be added together and the right of each to common shares as aforesaid will be measured by that percentage of the whole which is coincident with *888 their proportion of the aggregate net profit entering into the computation aforesaid.
The individual shareholders of the parties of the first, second and third parts will in turn participate in the division of the common shares of stock which will be apportioned to that one of said three companies of which they are now stockholders, each to participate in the measure of his or her respective holding of shares.
The parties of the fourth part are hereby authorized and directed to organize the new corporation under the laws of some state which they will select after conference with legal counsel; the amount of authorized capital stock, both preferred and common, to be determined by them and if possible to meet the probable needs of future augmentation; the*1476 preferred shares to have a par value of $100 each and to be preferred both as to assets and dividends which latter are to be 7% cumulative, payable quarterly; the preferred shares to be subject to call and redemption at 110 on thirty days notice addressed to the post office address of the holder last entered upon the records of the company. The common shares to have par value of $100 each and to be nonassessable with voting power to the exclusion of the preferred shares.
The shares of common stock are to be issued subject to the condition that during the periods of time hereinafter stated no holder thereof will sell, assign or transfer the same to others before offering the same to the Corporation which issued them. The said Corporation may thereupon elect to take such shares by paying therefor within the first two years after organization of the Company the sum of Twenty-five Dollars per share or Fifty Dollars per share within the succeeding two years or Seventy-Five Dollars per share within the next succeeding two years and One Hundred Dollars per share within the next following four years; but these rates may be changed or the entire right of option to purchase may be annulled*1477 at any time by the affirmative vote of 76% of all of the authorized common stock; in which case the terms of the change so made shall govern thereafter. It will be understood that the option of purchase must be exercised within thirty days after the shares of stock are offered in writing, otherwise the holders of such shares will be at liberty to sell the same to others, but if he or she does not sell within thirty days after such right to sell to others accrued to him or her then the option of the Company to purchase will automatically reinstate itself with the same vigor and life as before.
Each subscriber hereto recognizes the fact that owing to legal or other obstacles which may not have been forseen the parties of the fourth part may not be able to carry out the foregoing in every detail, but they are hereby fully authorized and empowered to exercise their best judgment and each subscriber agrees to be bound by the determination of such judgment. The determination of a majority of said Trustees shall be decisive and conclusive upon every one in interest.
In all cases of apportionment of shares of stock, either preferred or common, which may in part entail a fraction of*1478 one share and likewise if a fraction should be the result of a computation of the interest of any shareholder in the existing three companies which are parties of the first, second and third part, the parties of the fourth part may in their discretion require a payment by the owner of such fraction, of a sum sufficient to entitle him or her to one full share in lieu of such fraction or they may cause to be paid to such shareholder in dollars and cents the value of such fraction and thereby annul the same.
Each of the said parties of the first, second and third part covenants and agrees that in the interim which shall elapse between the date of signing of this *889 agreement and the time when the assets are transferred in accordance with the direction of the parties of the fourth part, its respective business shall be conducted exactly the same as if no such transfer had been contemplated and that no changes whatever shall be made in said business or the manner of conducting it except such as are dictated by ordinary business care and judgment, but no dividend shall be declared in the said interim. In lieu of such dividend the said Trustee will, when the preferred shares*1479 of the Company to be newly organized are distributed in accordance with the foregoing provisions, direct payment to the holders of said new shares of a sum which will be equivalent of a 7% per annum dividend from February 1, 1916 to the date of issuance of the shares of stock of the new Company.
The said parties of the first, second and third part each covenant and agree upon request of the parties of the fourth part to cause its respective Board of Directors or its shareholders in meeting duly assembled to adopt any resolution which legal counsel may deem necessary or desirable to effectually carry out the sale and transfer aforesaid and each signatory hereto for himself, hereself or itself individually, and for his or her respective heirs or assigns, likewise covenants and agrees to sign, seal and deliver to the parties of the fourth part any paper or document which legal counsel may think necessary or desirable to remove any element of doubt or uncertainty concerning any matter in relation to such sale and transfer.
Each and every signatory hereto confirms and ratifies all the terms and conditions of the foregoing and for himself, herself or itself individually and for his*1480 or her respective heirs or assigns, hereby irrevocably empowers and authorizes the parties of the fourth part to carry out the plan above outlined and to deal with each and every matter and question that may arrive in connection therewith according to their best judgment and discretion, each of us hereby agreeing to abide by and conform with each and every decision, determination or requirements of said parties of the fourth part.
In the event that the foregoing cannot be carried out as planned or as may be planned by said Trustees, or if it cannot become consummate by January 31, 1917, then this agreement will become void and of like effect as if never made and the parties of the fourth part shall return to each shareholder the shares of stock by him or her delivered to them; otherwise the new organization will be completed as soon as reasonably possible, the new shares of stock will be delivered to each one entitled thereto and the old ones transferred or cancelled as when the parties of the fourth part will determined.
Joint Exhibit "B-2"
A meeting of the Board of Directors of Iten Biscuit Company of Nebraska was held in Omaha on May 16, 1916, at 11 o'clock, A. M. Present: *1481 John J. Iten, L. C. Iten, F. J. Iten, O. H. Barmettler, H. F. Vories, R. C. Stewart.
The following resolutions were offered, duly seconded, and carried in their numerical order, by unanimous vote:
I.WHEREAS, the stockholders of this Company have authorized the purchase of the property, business and good will of Iten Biscuit Co. of Iowa and also that of Iten Biscuit Co. of Oklahoma, with the understanding that said two Companies will each receive for purchase price, shares of stock of this Company to be distributed among the stockholders of said two corporations, the effect *890 of which will be the making of such stockholders the holders of shares of this Company, and
WHEREAS, the underlying consideration for a portion of the stock so to be issued is the surplus and good will of said two businesses, each being well established and profitable, therefore it seems only proper and just that a valuation of the good will of this Company be arrived at and that this be capitalized on a conservative basis measured by past earnings, the purpose being to place our own shareholders on a reasonable footing of equality with such new co-holders of shares of stock of this Company, *1482 therefore,
BE IT RESOLVED, that the value of the good will of this Company prior to the purchase of the business and good will of Iten Biscuit Co. of Iowa and Iten Biscuit Co. of Oklahoma be and hereby is fixed at One Million Five Hundred Thousand Dollars, ($1,500,000.00) for the reason that the average net annual earnings of the Company for the two years last past have been sufficient: First, to allow for liberal deductions for depreciation; Second, to provide 7% per annum on the sum total of the Company's tangible assets; and Third, to leave a balance besides which exceeds 10% of the value fixed for good will as aforesaid, and
BE IT FURTHER RESOLVED, that all outstanding shares of stock of this Company be at once called in for cancellation, and that in lieu thereof each shareholder will receive for each share of stock turned in for cancellation one and thirty-two hundredths shares of the preferred stock of this Company and one and sixty-four one hundredths shares of the common stock of this Company, provided, however, that no fractional shares of stock are to be issued, and wherever the computation of any shareholder's rights shall end with a fraction, such shareholder will receive*1483 in cash from the Company the value in dollars and cents of such fraction for preferred shares and will relinquish to the Company any fractional shares of common stock, upon receipt of which such fractional right shall stand as annulled.
II.WHEREAS, the Company's amended Articles of Incorporation contemplate the issuance of both preferred and common stock to the shareholders and also provide that the Board of Directors may give such preference and voting powers or restrictions or qualifications thereof as they may deem best, and further provides that the Board of Directors may have the preferred stock issued by the corporation with the reservation of the right to redeem such stock at the price of $110.00 per share by giving thirty days' notice by letter addressed to the Post Office address of the holder of such stock last entered upon the records of the corporation, and that the common stock shall be issued and accepted with the agreement and reservation that the corporation shall have the first option and right to purchase any or all of such shares whenever the holder thereof shall desire to sell or dispose of the same and it will be the duty of such holder to first offer in*1484 writing to sell such stock to the corporation and the Board of Directors shall have thirty days in which to purchase the offered shares at the current market price or price to be agreed upon, and if the offer is not so accepted within such thirty days thereafter, the holder or owner thereof may dispose of same to others within thirty days thereafter, and if not so sold or disposed of within such time then the option of this corporation to purchase will automatically be reinstated with the same vigor and life as before, therefore.
BE IT RESOLVED that all the shares of preferred stock are to be issued with the reservation of the right to redeem as provided in the Company's Articles of *891 Incorporation, and that the shares of common stock shall be issued with the agreement and reservation that the corporation shall have the first option and right to purchase any or all of such shares whenever the holder thereof shall desire to sell or dispose of the same, as is also provided in the Articles of Incorporation * * *.
Joint Exhibit C-3 is a list of the stockholders of the three companies, showing the number of shares held by each in each of those companies and the number of*1485 preferred and common shares issued to each, by the petitioner, in exchange for their old shares; and the said joint exhibit is incorporated in these findings by reference thereto.
The 14,547 shares of preferred stock and the 14,979 shares of common stock issued by the petitioner, as set forth in the fourth paragraph of division III of the stipulation, was issued to the stockholders of the three companies as follows: 2,807 shares of common and 3,139 shares of preferred to the stockholders of the Iowa company; 1,321 shares of common and 2,947 shares of preferred to the stockholders of the Oklahoma company; and 10,851 shares of common and 8,848 shares of preferred to the stockholders of the petitioner.
In 1920 the petitioner acquired all of the capital stock of the Shelby Biscuit Company, of Memphis, Tennessee, issuing in exchange therefor 2,750 shares of its own common stock.
In 1928 the petitioner sold its entire assets and business to the National Biscuit Company, receiving in payment therefor 100,000 shares of the common stock of that company. In its return for 1927 the petitioner reported a net income of $689,645.31.
The written stipulation filed by the parties at the*1486 hearing, contains the following:
V.In computing the invested capital of the Petitioner for the years 1918 to 1920, the Respondent has allowed the sum of $159,475.30 as the value of the intangibles of the Iten Biscuit Co. of Iowa, transferred on March 1, 1916, and has disallowed the sum of $245,524.70. No allowance in invested capital has been made for any good will of the Iten Biscuit Co. of Oklahoma. The good will as of March 1, 1916, of the Iten Biscuit Co. of Iowa was determined by the Respondent on the basis of a 10% return on tangibles and capitalizing excess earnings at 20%.
The actual cash value, as of the date of acquisition, of all of the intangibles acquired by the petitioner from the Iowa company in exchange for stock was $280,700.
The actual cash value, as of the date of acquisition, of all of the intangibles acquired by the petitioner from the Oklahoma company in exchange for stock was $132,100.
The written stipulation filed by the parties at the hearing contains the following:
*892 XV.
It is agreed that the salaries and bonuses paid to the officers of the petitioner in the years 1918, 1919 and 1920 were as follows:
| H. F. Vories | $6,666.81 | $7,500.00 | $7,500.12 |
| F. J. Iten | 5,875.08 | 7,500.00 | 7,000.08 |
| L. C. Iten | 5,875.08 | 7,500.00 | 7,000.08 |
| J. J. Iten | 7,124.97 | 7,500.00 | 7,500.00 |
| O. H. Barmettler | 75,704.96 | 62,956.59 | 72,841.33 |
| R. C. Stewart | 18,193.73 | 13,731.35 | 12,203.14 |
*1487 H. F. Vories was a director and chairman of the board of directors of the petitioner during the years in controversy, offices which he held throughout the period 1908 to 1926. Before becoming associated with the petitioner he had been secretary of the American Biscuit Company and a vice president of the National Biscuit Company. He was one of the best known men in the cracker industry.
Frank J. Iten was a member of the partnership of L. Iten & Sons, the predecessor of the Iowa company. He also had been bookkeeper, office manager and manager of the Iowa company and a director and treasurer of the Oklahoma company.
Louis C. Iten was a member of the partnership of L. Iten & Sons, the predecessor of the Iowa company. He became secretary-treasurer of the Iowa company when that company was organized in 1894. He was made a vice president of the petitioner and a vice president of the Oklahoma company when those companies were organized in 1908 and 1911, respectively.
John J. Iten was a member of the partnership of L. Iten & Sons, the predecessor of the Iowa company. He became president of the Iowa company when that company was organized in 1894. He had supervised and constructed*1488 the plants of the petitioner, the Iowa and Oklahoma companies.
Otto H. Barmettler was vice president and general manager of the petitioner during the years in controversy. He had previously served in the capacities of secretary of the petitioner and manager of the petitioner's Omaha plant. He had also previously been a vice president of the Oklahoma company, in charge of buying and sales. Before becoming associated with the petitioner, he had been manager of the Clinton, Iowa, branch of the American Biscuit Company, manager of the Des Moines bakery of the Continental Biscuit Company, and in charge of the cracker sales department of the National Biscuit Company at St. Joseph, Michigan.
Richard C. Stewart was manager of the petitioner's plant at Clinton, Iowa, formerly the plant of the Iowa company, during the years in controversy, a position which he occupied from 1916 to 1928. Previous to 1916 he had been cashier and bookkeeper, and also assistant manager and assistant sales manager, of the Iowa company.
*893 The following is a statement of the petitioner's net income, invested capital, profits tax and percentage of profits tax to net income, for 1918, 1919 and*1489 1920, as determined by the respondent in the deficiency notices:
| Year | Net income | Invested capital | Profits tax | Percentage |
| 1918 | $1,127,263.08 | $2,117,471.58 | $645,120.92 | 57.23 |
| 1919 | 934,876.37 | 2,541,187.87 | 231,044.03 | 24.71 |
| 1920 | 1,097,071.67 | 3,100,242.95 | 264,615.06 | 24.12 |
At the hearing, the parties orally stipulated as follows:
It is stipulated and agreed that the facts as testified to by the witnesses Otis H. Barmettler, Allen D. Speer, Ernest H. Buffet, LeRoy C. Petro, Chas. F. Peach and Willis R. Avery, in Dockets 43667 and 45164, and the documentary evidence introduced in connection therewith, covering the years 1922 to 1926, inclusive, in the hearing of these appeals held in Omaha, Nebraska, on March 3, 1931, would be the same, if said witnesses were called, sworn and testified in these proceedings for the years 1918, 1919 and 1920, under Dockets Nos. 16429 and 20899, in connection with the issue to the returnable packages and the treatment thereof.
In conformance with this stipulation there is incorporated herein and made a part of these findings, by reference thereto, paragraphs 2 to 19, inclusive, of the Board's findings of fact*1490 in Dockets 43667 and 45164.
The written stipulation filed by the parties at the hearing contains the following:
VI.The Respondent, in his determination of net income upon which the deficiencies proposed were determined has allowed as a deduction in computing net income for each of the years, depreciation on so-called "Returnable Packages" in the following amounts:
| 1918 | $43,680.15 |
| 1919 | 48,592.14 |
| 1920 | 69,630.88 |
The respondent in his computation of invested capital for said years has made similar adjustment to invested capital on account of these deductions and similar deductions for prior years.
It is agreed that from the evidence introduced, if the Board should find that there was in fact and in law, a sale of so-called "Returnable Packages" during the years 1918 to 1920, inclusive, that the aforesaid allowances were erroneously allowed and should be added to taxable income and the proper adjustment made to invested capital.
VII.* * *
In 1918, there was a net credit to the Returnable Package Depreciation Reserve account of $11,370.38, which amount has not been returned as income by the Petitioner in filing its Federal account, nor has it been*1491 treated as taxable income by the Respondent in his determination of deficiency for the year 1918.
*894 In the year 1919 there was a similar credit to the Returnable Package Depreciation Reserve account of $30,044.57, which amount was not accounted for by either the Petitioner or Respondent as set forth with respect to the year 1918.
In the year 1920, there was a net debit to the Can Liability account of $19,387.47, which net loss the Petitioner did not claim as a loss in computing its taxable income for said year nor has the Respondent allowed same as a loss during said year in his determination of the deficiency for the year 1920.
* * *
X.It is agreed that the taxable net income as determined by the Respondent for the year 1919 should be increased $3,073.87 for Real Estate Taxes allowed as deduction in 1918 and erroneously allowed again in 1919.
In determining the war-profits tax for 1918 the respondent has allowed a war-profits credit which is based upon an average net income for the pre-war period of $169,904.85.
OPINION.
LANSDON: The petitioner contends it is within the provisions of section 327 of the Revenue Act of 1918, and that its profits taxes*1492 for the years in controversy should be redetermined under the provisions of section 328 of that act; but should it be wrong in that contention, then it is contended that the respondent has understated invested capital, for each of those years, by excluding therefrom a substantial portion of intangibles admissible under the limitations of section 326(a)(4) of the act. The claim to special assessment is premised upon (1) respondent's inability satisfactorily to determine the invested capital, because of the manner and form of organization and the impossibility of ascertaining the cost of intangibles developed in the business; (2) an abnormality in capital resulting from the inclusion of tangible property at less than the actual cash value thereof, as of the date of acquisition, and the exclusion of valuable income-producing intangibles developed in the business; and (3) an abnormality in income, resulting from the payment of salaries to executive officers which were abnormally low and inadequate considering the qualifications of such officers and the nature of the services rendered.
We are satisfied from the record before us that there is an abnormality in capital within the meaning*1493 of subdivision (d) of section 327 of the Revenue Act of 1918, due to the exclusion of valuable intangibles which were substantial contributing factors in the earning of the income of the years in controversy. The history of sales promotion and development work and the record of gross sales and earnings over the period of corporate existence denote the creation and rapid enhancement in value of an intangible structure. We think the evidence warrants the conclusion that in 1916, when the *895 petitioner acquired the Iowa and Oklahoma companies, the value of the petitioner's intangibles alone was at least $1,000,000, an amount in excess of its investment in the tangible properties of the business; and there is nothing in the history of the business subsequent to 1916 which indicates any diminution in the value of those intangibles. For the five-year period 1912 to 1916, inclusive, the average net tangibles employed in the petitioner's business amounted to $621,661.17, and the average earnings of the business amounted to $252,244.48. If a return of 10 per cent be ascribed to the net tangibles, the earnings attributable to the intangibles were more than three times the earnings*1494 attributable to the tangibles. No part of the value of the intangibles may be included in invested capital under the provisions of section 326 of the act, except to the extent of the actual cash expenditures in building up the intangible structure, and the amount of these expenditures, which represent but a very small portion of the whole intangible value, can not be determined from the books of account. It is unnecessary to discuss the other grounds advanced by the petitioner as the basis of its claim for special assessment. In our opinion, the exclusion from invested capital of the intangibles developed in the petitioner's business creates just such an abnormality as is contemplated by section 327 and makes mandatory the application of the provisions of section 328 for the determination of the petitioner's profits taxes for the years in controversy.
Our decision on the issue of special assessment makes it unnecessary to consider the alternative issue raised by the petitioner at this time. Unless the profits tax under section 328 is greater than the tax when computed under section 301, the matters pertaining to invested capital and the war-profits credit raised in the petition*1495 are moot questions and adjudication thereof is unnecessary.
The remaining question for consideration is whether the petitioner is entitled, in computing taxable net income, to deductions for depreciation of can containers, so-called "returnable packages." This is the same question as was raised by the petitioner in Dockets 43667 and 45164, decided this day; and upon the authority of the decision in those proceedings, we hold that the petitioner divested itself of the ownership of returnable cans in which it shipped its products to customers; that such returnable cans were not used in the petitioner's business; and that it is not entitled to deductions representing reasonable allowances for wear, tear and exhaustion of the returnable cans, in computing the taxable net income of each of the years in controversy. The amounts of such allowances are not in controversy. Accordingly, the respondent's claim for an increased deficiency for each of the years in controversy, based upon the grounds *896 that he erred in allowing deductions for depreciation of returnable cans, and that he failed to include the gains from sales of returnable cans in gross income, is approved.
In view*1496 of the stipulation of the parties that the respondent has erroneously allowed a deduction of $3,073.87 for 1919 on account of real estate taxes which were also allowed as a deduction for 1918, the net income for 1919 as determined by the respondent in the deficiency notice should be increased by that amount.
Decision will be entered after other hearing under Rule 62.