Zanuck v. Commissioner

Memorandum Findings of Fact and Opinion

TURNER, Judge: The respondent determined a deficiency in gift tax for 1939 of $6,215.63 in the case of each of the petitioners. Issues presented by the pleadings are the correctness of the respondent's determination (1) that certain transfers in trust of 15,000 shares of corporate stock by each petitioner were subject to gift tax and (2) that said shares of stock had a value of $14.25 a share at the time of the transfers. At the hearing the petitioners waived issue No. (1) thus leaving only issue No. (2) for determination.

Findings of Fact

The petitioners are husband and wife and filed their gift tax returns for 1939 with the Collector for the Sixth District of California.

On October 5, 1939, the petitioners transferred in trust to three separate banking institutions a total of 30,000 shares of common stock in Twentieth Century-Fox Film Corporation for the benefit of their three young children, each petitioner transferring 15,000 shares. Nine different trusts with identical terms were established, one for each child with each of the banks.

*71 In their respective gift tax returns for 1939, the petitioners showed the above-mentioned transfers of 15,000 shares of common stock in Twentieth Century-Fox Film Corporation, sometimes hereafter referred to as Fox Film, and reported the stock as having a value of $11 a share at the time of the transfers. In determining the deficiencies involved herein the respondent determined that the value of the stock at the time of the transfers was $14.25 a share which was the mean between the highest and the lowest selling prices of the stock on the New York Stock Exchange on the date of the transfers.

Fox Film Corporation was organized under the laws of New York in 1915 and continued to operate under that name until 1935. In the latter year it was reorganized under a plan by which it acquired, for shares of its own stock, all the property, assets and business of Twentieth Century Pictures, Inc. At that time its name was changed to Twentieth Century-Fox Film Corporation.

Fox Film is one of the largest and most prominently known companies engaged in the production and distribution of motion pictures. Its production embraces feature and educational pictures and a news service. In 1939 its *72 production was distributed throughout the world, through 130 foreign and domestic branches. Aside from its loans to and investments in wholly owned subsidiaries, Fox Film made loans to and investments in other affiliated corporations, less than 50 percent of whose stock was owned by it. The most important of the latter was National Theatres Corporation, 42 percent of whose stock was owned by Fox Film. National Theatres Corporation operated 19 de luxe theatres in five cities in the United States, and 400 other theatres in 17 states, principally California, Kansas, Wisconsin and Missouri. It also had a substantial interest in Gaumont-British Picture Corporation, Limited, which was one of the largest motion picture producers in England and which owned and operated more than 300 theatres in the British Isles. National Theatres Corporation also had a controlling interest in the Hoyt's group of theatres in Australia consisting of approximately 90 theatres. Fox Film owned practically all of the stock of Movietonews, Inc., producer of Fox Movietone News throughout the world. A subsidiary of Fox Film owned the Roxy Theatre in New York City.

For a number of years prior to and including 1939*73 Fox Film published detailed annual reports respecting its operations and condition. These reports included statements of its properties, financial status, activities, earnings and dividends. The annual reports were supplemented by reports of quarterly earnings as the results of operations became available during the year. These annual and quarterly reports, which were substantially accurate and without misrepresentation or omission of material facts, were mailed to stockholders. Digests of these reports were given wide circulation through publications recognized as authoritative by investors and financiers.

The authorized capital stock of Fox Film consisted of 1,500,000 shares of no par value preferred stock and 3,100,000 shares of not par common stock. The preferred stock was entitled to a dividend of $1.50 per anmum which was cumulative. This stock was convertible into common at the rate of one share of preferred for 1 1/4 shares of common. The preferred stock was preferred both as to dividends and as to assets on liquidation. It was callable in whole or in part on 45 days notice $35at a share plus accumulated dividends, and, if not called prior to liquidation, holders thereof *74 were entitled to receive on liquidation $35 per share and accumulated dividends. The preferred stock was entitled to have set aside, each year, out of surplus an amount equal to 5 percent of the annual consolidated net earnings for the year after providing for full preferred stock requirements, to be used for the retirement, during the following year, of preferred stock at prices not exceeding the redemption price. No dividends could be declared on the common stock if the net assets of the corporation, as shown by its books, were less than $30 per share of outstanding preferred stock or if the payment of the dividend would serve to reduce the net assets of the corporation below $30 per share of outstanding preferred stock. Holders of both classes of stock had full voting rights and in event of default by the corporation in payment of the dividends on preferred for four full quarters the holders of preferred were entitled to elect a majority of the board of directors. At the beginning of 1939, there were issued and outstanding 938,745 shares of preferred stock, and 1,741,984 shares of common while at the end of the year 926,214 shares of preferred and 1,741,991 shares of common stock*75 were outstanding. As of May 26, 1939, Chase National Bank of the City of New York owned 221,157 shares of common stock and was the beneficial owner of an additional 100,000 shares of common. As of March 1, 1940, it owned 671,915 shares of preferred stock and 221,158 shares of common.

The consolidated balance sheets of Fox Film and wholly owned subsidiary corporations (exclusive of the corporation that owned the Roxy Theatre) showed the following at the end of the indicated years:

*76 In the balance sheet at the end of 1938 the item "Other Assets" included an amount of $1,106,797.46 representing assets in countries having currency restrictions, less liabilities, owing in those countries. A different procedure was adopted in the balance sheet at the end of 1939. Due to the outbreak of hostilities abroad in 1939 and the subsequent establishment of more stringent currency restrictions in all important foreign countries with respect to the transfer of foreign currency to the United States, it was concluded that all current assets in foreign countries, or a substantial part thereof, was not, in the ordinary course of business, available to Fox Film for use in its operations in the United States. Accordingly, in the balance sheet at the end of 1939 the assets and liabilities in foreign countries were included in the consolidated figures shown above for the various assets and liabilities and were also shown in separate columns, total foreign assets being shown as $8,558,246.63 and total foreign liabilities as $1,920,048.65 or an excess of foreign assets over foreign liabilities of $6,638,197.98.

It was the policy of Fox Film to include in its income account, on a cash*77 basis only, film rentals from subsidiaries in certain countries having currency restrictions, and to carry the balance of the profits of such subsidiaries in the consolidated balance sheet to a reserve for fluctuation in dollar value of assets in foreign countries. The item of "Reserve" in the above balance sheet at the end of 1939 contained an amount of $850,000 representing such a reserve. During 1939, $400,000 of the amount was used for the purpose for which the reserve was created, leaving a balance of $450,000 in the reserve at the end of 1939. During 1940 the corporation increased the reserve by $2,800,000 and showed a balance therein of $3,250,000 at the end of that year which served as a general reserve against net foreign assets of $10,338,707.

The consolidated net profit of Fox Film and wholly owned subsidiaries (excepting the corporation owning the Roxy Theatre) was $7,252,466.55 for 1938 and $4,146,813.65 for 1939. During 1940 a loss of $517,336.64 was sustained after making the above-mentioned addition of $2,800,000 to the reserve for foreign assets.

The following is a statement of the ratio of Fox Film's operating expenses to sales, return on average invested capital, *78 total invested capital, cash and marketable securities, ratio of cash and marketable securities to current liabilities, ratio of inventories to current assets and equity in assets per share of common stock for the indicated years:

The following is a statement of the earnings per share of preferred stock and common stock of Fox Film for the indicated periods:

During 1938 sales of the common stock of Fox Film on the New York Stock Exchange amounted to 722,900 shares at prices ranging from a low of $16 1/8 per share on March 29 to a high of $28 3/8 per share on November 12. For December the high was $26 3/8 per share on December 1 and the low was $24 1/2 per share on December 16.

The following is a statement by months for the years 1939 and 1940 of the sales of Fox Film common stock on the New York Stock Exchange, the high and low prices per share, for the respective months, and the dates on which they occurred.

*80 The following is a statement by days of the number of shares of Fox Film common stock sold on the New York Stock Exchange during the period September 6 through November 5, 1939, together with the high and low prices, and the mean of high and low prices:

*81 On September 1, 1939, the German Army invaded Poland and began World War II. By the end of September, 1939. Poland had been overrun and partitioned by Germany and Russia. Prior to and during the fall of 1939 movie producers including the petitioner were faced with labor troubles.

The value on October 5, 1939, of the shares of common stock in Fox Film transferred in trust by petitioners on that day was $14.25 per share.

Opinion

The petitioners reported that Fox Film common stock as having a value of $11 per share at the time of the transfers on October 5, 1939. The respondent determined that on said date the stock had a value of $14.25 per share, or the mean between the high and low selling prices of the stock on the New York Stock Exchange on such date. The only issue is what was the value of the stock on said date for gift tax purposes. The petitioners contend that the value was not in excess of $11 per share. In support of their position they point to the decline in earnings of the corporation during 1939 and 1940, continuous decline in the selling price of the stock from 1938 into 1940, the fact that labor troubles were confronting movie producers in the summer and fall of *82 1939 and the outbreak of World War II on September 1, 1939. They are not seeking the application of the "blockage theory" to support the reported value but urge that a proper evaluation of the condition of Fox Film and its prospects on October 5, 1939, will result in a discounting down to $11 per share of the prices at which the stock was selling on or about that date. No contention is made, nor is there anything to indicate, that the sales of the stock were not made in a free and open market or that they were made under peculiar or unusual circumstances.

As was pointed out in the Estate of Leonard B. McKitterick, 42 B.T.A. 130; Petition for Review dismissed, June 27, 1941, in the absence of exceptional circumstances depriving them of or reducing their evidentiary worth, prices at which stock is actually traded on an open public market on the basic date have been held generally to be the best evidence of their value on that date. Taken as a whole the evidence does not establish such exceptional circumstances as to warrant the conclusion contended for by the petitioners.

The market price of Fox Film common stock was rising during the greater part of*83 1938 and was declining during the greater part of 1939. However, at no time in 1939 did it reach a low of $11 per share, the value reported and contended for by the petitioners. In fact it was not until March 30, 1940, or about six months after the basic date, that it reached a low of $11 1/8 per share.

It is true that on the basic date World War II had begun, profits had declined, the September 30 dividend had been omitted and the corporation along with other producers was faced with labor troubles and the situation was much different to what it was in 1938 or the beginning of 1939. But it is also true that these adverse factors appear to have been reflected in the lower prices prevailing at the basic date. During September 1939 more than 100,000 shares of the stock were thrown on the market, or approximately 2 1/2 times the greatest amount for any preceding month in 1939, and the market price reached a low of $12 a share on September 11. This wave of selling was no doubt caused by the outbreak of the war coupled with other adverse factors. After the increased quantity of stock thus thrown on the market had been absorbed the price began to rise. Between the basic date and the end*84 of October the stock reached a high of $15 3/4 a share, and it was not until December 19, or two and one-half months after the basic date, that the stock declined below the previous 1939 low of $12 a share reached on September 11. In our opinion the evidence of record does not justify the claim of the petitioners that the stock was not worth what it was selling for on the basic date and that at that time there was an expectation that the selling price would decline to lower levels. The question here is the value of the stock on the basic date and from the evidence before us we think that the value determined by the respondent was sound.

Decisions will be entered for the respondent.