Uniroyal Incorporated v. Commissioner
| Decision Date | 18 May 1993 |
| Docket Number | Docket No. 46733-86. |
| Citation | 65 T.C.M. 2690 |
| Parties | Uniroyal Incorporated and Consolidated Subsidiaries v. Commissioner. |
| Court | U.S. Tax Court |
Philip S. Winterer, Joseph P. Moodhe, and Gary M. Friedman, for the petitioners. Stephen C. Best and Robert E. Marum, for the respondent.
Memorandum findings of fact and opinion
Respondent determined a deficiency in Federal corporate income tax against petitioners1 for 19822 in the amount of $1,320,450.
After a concession by respondent, see infra note 14, the issue for decision is whether a $16,500,000 cash transfer3 to Uniroyal by a 50-percent subsidiary is to be taxed to Uniroyal as a dividend or as part of the sale price of Uniroyal's stock in the subsidiary.
Findings of fact
Some of the facts have been stipulated; the stipulations and the stipulated exhibits are incorporated herein by this reference.
When the petition was filed in the instant case, Uniroyal's principal office was at Middlebury, Connecticut.
Rubicon Chemicals, Inc.
Uniroyal was a co-owner of Rubicon Chemicals, Inc. (hereinafter sometimes referred to as Rubicon), a corporation organized in 1963 under Louisiana law. Rubicon's outstanding stock consisted of 2,500,000 class A shares and 2,500,000 class B shares. The class A and class B shares were identical, except with respect to voting rights for Rubicon's directors. Uniroyal owned all of Rubicon's class A shares.
Rubicon's other owner was Imperial Chemical Industries, PLC (hereinafter sometimes referred to as Imperial), which owned all of the class B shares.4 Imperial is a corporation organized under United Kingdom law.
Imperial also owned all the stock of ICI, a corporation organized under Delaware law. ICI is merely a holding company. Another related company, ICI Americas, Inc. (hereinafter sometimes referred to as ICI Americas), was a wholly owned subsidiary of ICI.
Rubicon manufactured chemicals. Rubicon had two separate lines of business. One line involved the production of diphenylamine (hereinafter sometimes referred to as DPA) and aniline. Aniline and DPA were key raw materials used in Uniroyal's rubber chemical business. Rubicon was the main supplier of these products to Uniroyal. The basic arrangement was that Rubicon leased its aniline and DPA facilities to Uniroyal and Imperial, and manufactured the aniline and DPA for their benefit, for cost ($16,752,000 for 1980, $21,409,000 for 1981) plus a set fee of $600,000 per year. Uniroyal took all of Rubicon's DPA production and about 25-30 percent of Rubicon's aniline production; Imperial or its subsidiaries took the remainder of Rubicon's aniline production. Rubicon did not sell any DPA or aniline in the open market.
Rubicon's other chemical products line consisted of two isocyanate compounds, tolylene diisocyanate (hereinafter sometimes referred to as TDI) and diphenylmethane diisocyanate (hereinafter sometimes referred to as MDI). Uniroyal had less of a strategic interest in Rubicon's production of isocyanates than it had in aniline and DPA. Imperial, however, regarded MDI and TDI production as an important part of its worldwide business operations. Isocyanate compounds are used in many consumer and industrial products, including automobile products, construction materials, appliances, mattresses, and furniture cushions. About 80 percent of Rubicon's isocyanate production was sold in the open market, with the remaining 20 percent being available to its shareholders. Because Rubicon received only $600,000 profit per year from its aniline and DPA production, most of Rubicon's total profits came from the sale of isocyanates. The following table shows Rubicon's income and retained earnings for 1980 and 1981.
19801 19812
Income before income
taxes ................... $16,167,000 $19,412,000
Net income ................ 9,545,000 10,464,000
Retained earnings (end
of year ................. 19,733,000 30,197,000
1 Rubicon's 1980 fiscal year ended on December 28
2 Rubicon's 1981 fiscal year ended on December 27
Despite these profits, Rubicon had never paid any dividends to either shareholder, Uniroyal or Imperial. However, Rubicon paid royalties to Imperial on the sales of MDI, in the amounts of $1,568,000 for 1980 and $2,299,000 for 1981.
In 1979 and 1980, worldwide demand for isocyanates was strong. Imperial believed that the demand for isocyanates, particularly for MDI, would be further stimulated by rising energy prices. Furthermore, at that time only a handful of companies in the world produced MDI. Thus, in 1979 Imperial began to consider expanding Rubicon's isocyanate business. By early 1981, Imperial proposed that Rubicon expand its isocyanate production at the immediate cost of about $92 million, to be followed by a second, similar expansion in 1986.
Uniroyal was not willing to pay half the cost of the proposed expansion of Rubicon's isocyanate business. During 1980 and 1981, Uniroyal was emerging from a period of severe financial distress. During this time, Uniroyal placed a high priority on improving its balance sheet. In particular, Uniroyal sought to repay certain of its outstanding debts and to generate cash to fund its core businesses. Accordingly, Uniroyal was unwilling to share the cost of Rubicon's isocyanate expansion both for financial reasons and because Uniroyal was less interested in isocyanates than in aniline and DPA.
Because Uniroyal and Imperial were equal co-owners of Rubicon, no major proposal affecting Rubicon could be carried out without the approval of each shareholder. Thus, consideration of the expansion proposal was at a deadlock. Since Uniroyal's main interest in Rubicon was the production of aniline and DPA, and Imperial was primarily concerned with Rubicon's isocyanate business, a possible solution to the deadlock was to split Rubicon into two separate entities, one to produce DPA and aniline, and the other to produce isocyanates. By early 1981, Uniroyal and Imperial began to discuss the possible transfer of Uniroyal's interests in Rubicon's MDI and TDI facilities.
On June 25, 1981, Imperial's board of directors approved a proposal for ICI Americas to proceed towards acquiring Uniroyal's 50-percent interest in Rubicon for not more than $39 million ($31 million cash plus assumption of $8 million debt).
Imperial's negotiators considered three alternative methods of acquiring Uniroyal's share of the isocyanate business, as follows:
(1) Buy-out of Uniroyal's 50% share of stock in Rubicon. This is essentially the mechanism presented to the [Imperial] Main Board on June 25, 1981.
(2) A Uniroyal proposal * * * based on the concept of full leasing of the Rubicon assets. This would involve the establishment of Rubicon as a leasing company with 100% rights to [Imperial] for isocyanates, 100% rights to Uniroyal for DPA, and aniline rights as currently exist, etc.
(3) A two-company concept formulated during preliminary discussions within [Imperial] which would place the isocyanates and offsites into a 100% [Imperial] company (R2) and leave the residual DPA and aniline assets in a jointly held company (R1) as per the current arrangement.
It was recognized that Uniroyal would want assurances aboutits DPA and aniline source of supply. This concern caused Uniroyal to balk at Imperial's proposal to buy Uniroyal's Rubicon stock. Negotiators then moved to the third of the above-listed methods. Imperial's negotiators then asked Imperial's board of directors to approve the following proposal: Rubicon would be reorganized into two companies. One company would comprise the MDI and TDI assets and business. The other company would continue to manufacture aniline and DPA under a lease arrangement and would continue to be owned equally by Uniroyal and Imperial. Uniroyal would sell to Imperial Uniroyal's 50-percent interest in Rubicon's isocyanate business for $30 million. This price, which Imperial had considered offering for 50 percent of the entire then-present Rubicon, could properly be offered for 50 percent of the stripped-down Rubicon because of significantly improved projections as to the MDI and TDI markets. The negotiators understood that, in order to minimize tax liabilities, "some initial payments must be made before January 6, 1982 and transaction completed prior to January 27, 1982."5
On July 9, 1981, the president of Uniroyal Chemical Co., a division of Uniroyal, sent a memorandum to Uniroyal's board of directors, including the following language:
Approval is requested to divest the MDI/TDI Assets of the Rubicon joint venture at Geismar, Louisiana. We will sell our interests in all urethane operations, MDI and TDI, to our joint venture partner, [Imperial]. Our share of the assets will be sold and [Imperial] will assume the guarantee of our share of the outstanding debt of Rubicon (approximately $25M in total) for a net price of $31M. Uniroyal will retain its interests at Rubicon to produce Aniline and DPA in support of our rubber chemical and other specialty chemical businesses.
* * *
In recognition of the above and after considerable negotiation, [Imperial] has agreed to pay Uniroyal $31M (or some $15M in excess of Dec. 31, 1981 equity value) and will assume the outstanding loan obligation (currently guaranteed by Uniroyal, Inc.) of $12.5M for its 50% share of the assets associated with MDI/TDI.
We respectfully request approval to proceed with this divestment for $31M with the form of the transaction to be finalized. [Emphasis added.]
On July 15, 1981, Uniroyal's board of directors approved the transfer of Uniroyal's share of the isocyanate business to Imperial, at a price and on terms approved by Uniroyal's president and chief executive officer.
Still in July, Uniroyal proposed to Imperial a different method of rearranging their interests in Rubicon. Under this proposal, Rubicon would lease its MDI and TDI plants to...
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