Sibley, Lindsay & Curr Co. v. Comm'r of Internal Revenue

• Decision Date: 09 August 1950
• Docket Number: Docket No. 20709.
• Citation: 15 T.C. 106
• Parties: SIBLEY, LINDSAY & CURR CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
• Court: U.S. Tax Court

15 T.C. 106

SIBLEY, LINDSAY & CURR CO., PETITIONER,

v.COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Docket No. 20709.

Tax Court of the United States.

Promulgated August 9, 1950.

Petitioner paid $16,500 legal and investment counsel fees in connection with a revision of its capital structure. Of the three proposals submitted to petitioner it was able only to carry out a recapitalization of its stock. Two additional proposals, (1) a merger of its subsidiary with petitioner and (2) a refinancing of the six per cent noncallable bonds of petitioner and its subsidiary were abandoned by petitioner. $11,000 was attributable to the abandoned proposals. Held, petitioner is entitled to deduct $11,000 as ordinary and necessary expense. Richard B. Barker, Esq., for the petitioner.

Michael Waris, Jr., Esq., for the respondent.

The Commissioner has determined a deficiency in petitioner's excess profits tax for the fiscal year ended January 31, 1945, of $30,957.68. The petition states that $12,873 of this amount is in dispute. The only adjustment which is contested is respondent's adjustment to net income of $16,500 which was explained in a statement attached to the deficiency notice, as follows:

(a) Legal, recapitalization expenses are held to constitute capital expenditures and excluded as a deduction from gross income for Federal income tax purposes under the provisions of the Internal Revenue Code.

By appropriate assignment of error petitioner contests this adjustment.

FINDINGS OF FACT.

Petitioner is a corporation with its principal office at Rochester, New York. The return for the taxable year herein was filed with the collector for the 28th district of New York. Its books are kept and returns filed on a fiscal year basis ending January 31st.

In the spring of 1944, the board of directors of petitioner appointed a committee of the board to make a study of all phases of the capital structure of petitioner. This committee held several meetings and came to the conclusion that it could not make any constructive progress without the advice and guidance of outside disinterested counsel. Accordingly, early in May of 1944, the committee employed Goldman, Sachs and Company (hereinafter sometimes called Goldman), investment bankers in New York City, to study the entire capital structure of both petitioner and its subsidiary, the Erie Dry Goods Company (hereinafter called Erie), and to render petitioner a report. Petitioner did not limit Goldman in its examination but gave it a free hand to study the entire situation and to make such recommendations and proposals as it considered desirable.

Goldman thereafter studied charters, the mortgage, a plan of the properties, balance sheets, income accounts, and dividend records and made a thorough review of the whole situation. It found an unorthodox capital structure in that petitioner had 6 per cent noncallable bonds in the amount of $1,125,000 due in 1961; 10 per cent $100 par value noncallable preferred stock outstanding in the amount of $1,725,000; and 40,000 shares of $100 par value common stock. Erie had 6 per cent noncallable bonds in the approximate amount of $325,000 due in 1966; class A voting stock, 51 per cent of which was owned by the petitioner; and class B stock, owned by the management of the Erie store. The petitioner owned just under 40 per cent of both classes of Erie stock.

After several months of study, Goldman, in June 1944, submitted a report to the petitioner recommending three distinct proposals. They were:

(a) A merger of Erie into petitioner.

(b) A refinancing of the 6 per cent noncallable bonds of Erie and petitioner.

(c) A recapitalization of the preferred stock and a split-up of the common stock of the petitioner. In the recapitalization of the preferred stock that stock was to be surrendered and each holder of a share of preferred was to receive seven and one-half shares of new $20 par value common stock. The old common stock, $100 par value, was to be surrendered and each shareholder was to receive three shares of new $20 par value common stock.

After the report of Goldman was submitted to the committee of petitioner's board of directors, there were numerous discussions of the three proposals by the committee and the three proposals were also discussed with the general counsel of petitioner, D. N. Beach, of the firm of Harris, Beach, Keating, Wilcox and Dale. Conferences were also held with representatives of the various families who held petitioner's various securities. Finally, on July 20, 1944, there was a final committee meeting attended by several of the other directors and the president of petitioner. At this meeting it was decided that petitioner, because of advice of counsel, would be compelled to abandon two of the projects recommended by Goldman, namely, the merger of petitioner with its subsidiary, Erie Dry Goods Company, and the refinancing of the 6 per cent noncallable bonds of Erie and petitioner. It was also decided at this meeting that the committee would recommend the third proposition which was the recapitalization of Sibley, Lindsay & Curr Co.

The reason for abandoning the merger proposal was based largely on the legal advice of Beach. He advised that large blocks of both preferred and common stock of petitioner were held in trusts, which trusts had restrictive clauses in their agreements which would prevent the exchange of stock in petitioner for stock in a merged corporation. The reason for abandoning the proposal to refinance the bonds was that discussions held by the committee with various bondholders disclosed that the bondholders would not agree to the proposal.

The decision of the committee on July 20, 1944, to go ahead only with the recapitalization of the stock, was presented to the board of directors at a regular meeting thereof held on July 24, 1944. The matter was informally discussed at that time, but recognizing that it was a matter of importance, it was decided to have a special meeting of the board on the following day. At that meeting on July 25, 1944, two representatives of Goldman were present and the board went into all phases of the matter and discussed it fully. The report of the committee was approved by...