*3589 1. March 1, 1913, value of petitioner's land, buildings, machinery and equipment determined.
2. The amounts of certain capital additions, made subsequent to March 1, 1913, determined.
*176 This proceeding is for the redetermination of a deficiency of $558.23 income and profits taxes for 1919. The errors alleged are:
(1) Respondent's finding that the petitioner derived a taxable gain of $71,046.83 from the sale of its plant assets in 1919.
(2) Respondent's failure to find that the petitioner derived no taxable gain from the sale of said plant assets.
(3) Respondent's failure to allow as a basis for depreciation the fair market value of petitioner's buildings, machinery, and equipment as of March 1, 1913, plus the cost of subsequent additions.
FINDINGS OF FACT.
The petitioner was incorporated under the laws of the State of North Carolina in 1894, and thereafter engaged in the manufacture of cotton goods at Newton, N.C., until the sale of its properties in February, 1919.
The Newton mill as originally*3590 constructed, some time prior to 1890, had approximately 2,000 spindles. Additions were made from time to time so that on or about March 1, 1913, the mill had 7,952 spindles. By February, 1919, this number had been increased to approximately 12,100 spindles. It had in connection with the mill about 30 acres of land which were located near the center of Newton, a town of approximately 3,500 inhabitants in 1913. The mill was operated by a good class of local labor which was easily controlled. The mill properties included tenement houses, and connections with the Southern and the Carolina-Northwestern Railroads.
*177 The cotton mill industry was seriously affected by the panic of 1907, and business conditions were bad during the succeeding two years. Business conditions generally were improving in 1910, and for the years 1911, 1912, and 1913, business in the cotton mill industry was practically normal. In 1914 business conditions became worse due to the outbreak of the war in Europe, but shortly thereafter, when the United States entered the war, they began to improve, and, during the years 1918, 1919, and until the latter part of 1920, they were unusually good. In and*3591 around 1913 there were no sales of cotton mills but during 1918, 1919, and 1920 the market was active and mills were in demand.
The petitioner's business during the period between 1909 and 1919 is shown by the tabulation of production, gross sales, and net profits, set forth below:
| Year | Production | Gross sales | Net profits |
| Pounds | |||
| 1909 | 1 $264.36 | ||
| 1910 | 1 25,437.88 | ||
| 1911 | $348,966.00 | 2,144.62 | |
| 1912 | 2,238,544 | 387,339.64 | 16,655.56 |
| 1913 | 2,595,435 | 531,360.75 | 9,234.26 |
| 1914 | 2,239,904 | $501,828.62 | $8,498.77 |
| 1915 | 2,150,379 | 413,532.04 | 44,091.95 |
| 1916 | 2,796,911 | 687,519.72 | 23,775.47 |
| 1917 | 2,673.563 | 858,148.13 | 19,965.90 |
| 1918 | 2,676,182 | 1,378,985.14 | 118,492.08 |
The petitioner manufactured both yarn and cloth and the amounts shown in the production column represent pounds of finished goods for each year.
The cloth manufactured was known as canton flannel, 60 per cent of the weight of which was a filler. Some time around 1908 the petitioner began experimenting with waste cotton, taken out in the manufacture of fine yarns, as a filler for its cloth. The first looms to use this waste cotton were installed in*3592 1911 or 1912. In 1913 the use of cotton waste from petitioner's mill and other mills was still in the experimental stage from the manufacturing standpoint. Petitioner had determined, however, the machinery that would be needed in order to make waste cotton into a filler, and had purchased the necessary equipment but had not installed it by March 1, 1913.
In 1919 the president and principal stockholder of the petitioner was B. D. Heath, who had been advised by his physician to get out of business, as he could not expect to live long, and that he should retire and live as quietly as possible. The stockholders' meetings held about the time of the sale were attended by Heath and R. P. Knox, the vice president, who decided to join Heath in the sale of the assets. Accordingly, on or about February 2, 1919, the land, buildings, machinery and equipment, together with some goods in *178 process, fuel and supplies, were sold to the Newton Mills Co. for $330,000. The sale price included $43,789.18 for goods in process, $4,573.71 for fuel, $1,361.65 for supplies, and $280,275.46 for the land, buildings, machinery and equipment.
The buildings, machinery and equipment were in good*3593 condition on March 1, 1913, and at the date of sale in 1919. The March 1, 1913, value of the land, buildings, machinery and equipment was $250,000, of which $20,000 was allocable to the land.
The respondent's computation of additions to be buildings, machinery and equipment during the period between March 1, 1913, and 1919 was:
| 1913 | $6,493.55 |
| 1914 | 8,878.01 |
| 1915 | 2,825.33 |
| 1916 | $18,113.21 |
| 1917 | 15,836.88 |
| 1918 | 21,019.12 |
In 1914 the petitioner built an addition to its weave room, and added a room for carding and spinning, and put in some additional machinery. At the end of the year the amount charged into capital expenditures for those additions was $8,878.01, which was considered insufficient by Knox, the secretary and treasurer, who increased the capital account by $10,000, which he considered a proper charge, based particularly on the two additional rooms which had been added during the year. The carding and spinning room was 178 by 76 feet, with a concrete floor, and formed a basement for the weave room addition which was of standard mill construction with floor dimensions of 72 by 76 feet. The estimated average cost of these two additional rooms was*3594 $1.25 per square foot of floor space.
Prior and subsequent to March 1, 1913, the petitioner had followed the practice of charging the costs of unusual repairs to expense rather than to capital. These unusual repairs included such items as freight charges and installation expenses incident to the purchase and operation of machinery, large repair items extending over a period of years, and the cost of conditioning and rehabilitating secondhand machinery purchased at relatively low prices. In December, 1918, the petitioner purchased secondhand machinery in the total amount of $10,462.50, charging such purchases to machinery repairs. Subsequent to December 31, 1918, but prior to the date of filing its return for 1918, a correcting entry was made on petitioner's books as of December 31, 1918, transferring this amount to its capital account.
Prior to June, 1918, the petitioner expended $2,802.06 for various items which were charged to Improvement Account, an account which is carried from month to month and at the end of the year charged to the plant account. The purchases were made from the firms listed below in the amounts shown:
| General Fire Extinguisher Co | $545.00 |
| Shuford National Bank | 111.20 |
| General Fire Extinguisher Co | 545.00 |
| Westinghouse Electric Mfg. Co | 511.36 |
| Universal Winding Co | 445.50 |
| Earmers & Merchants Bank | 644.00 |
| Total | 2,802.06 |
*3595 *179 The purchases from the General Fire Extinguisher Co. were for additions to the automatic sprinklers, the Westinghouse purchase was for a motor, the Universal Winding Co. item was for a winding machine, and the bank items represented drafts drawn through them for the purchase of machinery. An entry dated December 31, 1918, charged cost of machinery with the above total and credited the Improvement Account in the same amount.
The amounts of $10,462.50 and $2,802.06 were not included in the respondent's computation of additions as hereinabove set forth.
A reasonable depreciation allowance on the March 1, 1913, value, for the depreciable assets is a composite rate of 4 per cent.
The March 1, 1913, value of the assets in question was in excess of cost.
The respondent determined a gain on the sale of the capital assets of $71,046.83, being the difference between his March 1, 1913, value of $109,330.10 for the lands, buildings, machinery and equipment, and that portion of the total sales price allocable to such assets, which he determined to be $180,377.35. In his answer he asks that the profit as determined by him be increased by $99,898.11, as his determination*3596 was based upon a misapprehension of the true facts, as the amount received for the land, buildings, machinery and equipment was in fact $280,275.46.
OPINION.
MORRIS: The principal question to be determined by this proceeding is the fair market price or value of the land, buildings, machinery, and equipment belonging to the Newton Cotton Mills on March 1, 1913. We have determined as a fact that these assets had a value on that date of $250,000. This finding was supported by the opinions advanced by the experts who were placed on the stand by the petitioner. Their opinions stood up under cross-examination, and their testimony was not contradicted, nor refuted.
One of the experts computed the value on a per spindle basis, testifying to a value of $30 to $35 per spindle. This witness had lived near the property for a period of 68 years; he had been engaged in the cotton mill business since 1880; he had built three cotton mills somewhat similar to petitioner's, and after their construction had *180 acted as the general manager of all three mills; and he was often about the petitioner's mill and was familiar with it. He placed a value of from $20,000 to $30,000 on the*3597 acreage on which the mill property is located, his valuation being based on his experience in the sale of approximately 1,000 acres of land in an adjoining community. He placed a value of $250,000 to $260,000 on the buildings, machinery, and equipment on March 1, 1913.
The other expert had been engaged in the buying and selling of cotton mills, cotton mill machinery, textile machinery, and mill supplies since 1904. He had bought and sold mills or machinery, and sometimes both, in Louisiana, Mississippi, Alabama, Georgia, and South Carolina. He had purchased a 5,000-spindle yarn mill in South Carolina in 1915 or 1916, located approximately 80 miles from Newton, for a consideration of $160,000, which he had enlarged by the addition of weaving machinery so as to produce both yarn and cloth at an additional cost of $175,000. He was familiar with the experiments which the petitioner had been conducting relative to the use of waste cotton as a filler, and he testified that the petitioner's mill was the only one which had been able to obtain any satisfactory results, and that such use of waste cotton gave the petitioner a distinct advantage over competing mills. He was familiar with*3598 the petitioners' plant and equipment and placed a minimum valuation thereon of $250,000.
The testimony of the experts was countered by the respondent with the argument that if the property sold for $280,000 in 1919 with business conditions decidedly favorable, the same property could not have been worth $250,000 in 1913; and with the further contention that on the basis of earnings the petitioner is not entitled to a valuation on March 1, 1913, of more than the amount heretofore allowed. The record contains evidence of but two sales which can be used as indices of value in 1913, namely, the sale in 1915 or 1916, and the sale of petitioner's property in 1919. The sale in 1915 or 1916 corroborates the values testified to by the experts, and is much closer in point of time. The increase in the number of spindles, to which respondent attributes considerable weight, is not reflected in the production records of the mill, so that while the number of spindles may have been increased, there was not a corresponding increase in the amount of finished goods. A similar situation exists with respect to checking the earnings against the value claimed on March 1, 1913. Due to the custom of*3599 the petitioner of charging numerous capital expenditures to expenses during the years, the net profits do not reflect the true earnings. We are of the opinion, therefore, after considering all the evidence, that the value of the land, buildings, machinery, and equipment on March 1, 1913, was $250,000, $20,000 of which represented the value of the land.
*181 In addition to the capital items conceded by the respondent, which had been added during the period between March 1, 1913, and the date of sale, petitioner introduced testimony as to other capital additions made in 1914 and 1918. With respect to the $10,000 item which was arbitrarily determined and added to petitioner's plant account in 1914, we are not satisfied that Knox, the petitioner's secretary and treasurer, was qualified to fix the value on the two rooms which were covered by this estimate. He fails to support his estimate, other than that it represents his best guess. Such testimony is not sufficient to overcome the prima facie correctness of the respondent's determination, which is, therefore, approved. As to the additions of $2,802.06 and $10,462.50 for machinery, we are of the opinion that they represent*3600 capital expenditures, and should be added to the March 1, 1913, value of the assets in determining the gain derived from the sale thereof in 1919.
Judgment will be entered under Rule 50.
Footnotes
1. Loss. ↩