George Moser Leather Co. v. Commissioner

George Moser Leather Company, Petitioner, v. Commissioner of Internal Revenue, Respondent George Moser Leather Co. v. Commissioner Docket No. 29249 United States Tax Court 31 T.C. 830; 1959 U.S. Tax Ct. LEXIS 254; January 26, 1959, Filed *254 Decision will be entered for the respondent. 1. Petitioner, a leather tanner in Indiana, made claims for relief from excess profits taxes under section 722(b)(1) and (b)(2) of the Internal Revenue Code of 1939. Petitioner's claims for relief under section 722(b)(1) are predicated upon losses sustained in the Ohio River flood of January 1937. Held, petitioner has not established an amount representing normal earnings large enough to produce a credit greater than the credits computed on the invested capital method; it has not proved that its excess profits taxes are unjust and discriminatory and is not entitled to relief under section 722(b)(1), I.R.C. 1939. 2. Petitioner contends it is entitled to relief under section 722(b)(2) since its business and earnings and the business and earnings of the industry of which it is a member were adversely affected by an unprecedented drought in 1934. Held, petitioner is not entitled to relief as it has not established that its business was depressed during the base period, either because of temporary economic circumstances unusual in the case of petitioner or because of temporary economic events unusual in the case of the industry*255 of which it was a member. J. Bernard Brown, Esq., for the petitioner. Donald W. Geerhart, Esq., for the respondent. Van Fossan, Judge. VAN FOSSAN *830 Petitioner filed applications for relief from excess profits taxes pursuant to section 722 of the Code. 1 Upon disallowance of these applications petitioner filed a petition with this Court, seeking refunds for each of the fiscal years ending June 30, 1942 through 1946, as follows: Fiscal year ending June 30 Amount [1942] $ 64,869.68 [1943] 80,777.17 [1944] 75,933.08 [1945] 72,461.69 [1946] 14,631.05 *256 The petitioner sought relief under the provisions of section 722(b)(1), (b)(2), and (b)(3). At the trial, petitioner abandoned its claim under section 722(b)(3). The question is whether respondent correctly denied petitioner's applications for relief. FINDINGS OF FACT. Some of the facts are stipulated and are incorporated herein by this reference. *831 The petitioner, a corporation, was organized under the laws of the State of Indiana on July 1, 1929. Its principal office and place of business is located in New Albany, Indiana. Petitioner kept its books and filed its income and excess profits tax returns on an accrual basis, using a fiscal year ending June 30. Its excess profits tax returns for the taxable years ended June 30, 1941, 1942, 1943, 1944, 1945, and 1946 were filed with the then collector of internal revenue for the district of Indiana at Indianapolis, Indiana. Petitioner's excess profits credits for each of the excess profits tax years computed under both the income credit method and the invested capital credit method were as follows: Excess profits credit Taxable year ended June 30 Income credit Invested capital method credit method (sec. 713) (sec. 714) [1941] $ 44,301.38 $ 65,191.11 [1942] 54,957.35 65,807.20 [1943] 63,881.85 64,944.21 [1944] 63,881.85 66,423.83 [1945] 63,881.85 67,683.40 [1946] 63,881.85 69,523.34 *257 Petitioner's excess profits net income for each of the base period years and its average base period net income computed under section 713(e) of the Code were as follows: Year ended Year ended Year ended Year ended June 30 June 30, 1941, June 30, 1942, June 30, 1943, computation computation through 1946 computation [1937] $ 116,740.20 $ 145,983.80 $ 145,983.80 [1938] 12,222.18 16,218.39 16,233.07 [1939] 26,395.87 31,613.97 31,613.97 [1940] 31,073.89 37,583.19 37,583.19 Aggregate 186,532.14 231,399.35 231,414.03 Simple average 46,633.03 57,849.84 57,853.51 Average base period net income under sec. 713(e) (1939 Code) 46,633.03 57,849.84 67,244.05 At all times material hereto petitioner was engaged in the business of tanning and processing cattle hides. Its principal products were saddlery and shoe-welting leather. Petitioner also produced specialty and strap leathers and rough bark splits. "Saddlery" includes leather for collars, harnesses, saddles, girding, bridles, and straps. Harness and collar leather usually accounted for more than 50 per cent of petitioner's total sales. A shoe welt is a component part of a shoe between the upper*258 and the sole. A piece of shoe-welt leather approximately 3 feet long and one-quarter inch wide is needed for one pair of shoes. Petitioner processes both country and packer hides, the greater portion being country hides. Country hides are collected by dealers *832 from individual butchers and abattoirs, and are not graded and selected as are the hides obtained from large packers. Petitioner uses country hides in the production of sole-welt leather, as well as collar leather, and packer heavy steer hides in the production of harness leather. During the years 1932, 1933, and 1935 petitioner made various changes and additions to its plant and facilities, enlarging the capacity of its finishing operation by approximately 33 per cent, the capacity of the tanyard by 10 per cent, and the capacity of the beam house by 66 2/3 per cent. As a result of these changes and additions the overall capacity of the plant was increased by at least 10 per cent. Petitioner operated under these conditions of increased capacity during the base period. In 1937 the Ohio River overflowed its banks and inundated petitioner's tannery. At its crest the water was 10 feet in depth throughout the plant. *259 Water remained in the tannery, interrupting petitioner's operations, from approximately January 9 through February 27. During the last 2 weeks of this period petitioner was able to move some leather out of the plant, realizing sales of $ 105,006.10 for the month of February. As a consequence of the flood, petitioner incurred identifiable expenses totaling $ 6,584.58. The tanning industry is affected to a marked extent by price and volume fluctuations. As a result thereof the earnings of the leather industry have shown considerably greater variations than almost any other. This is an outgrowth of the nature of the process, the length of turnover, the high proportion of inventory assets to capital, and the extreme swings which occur in raw material prices. Cattle hides, a raw material of the tanning industry, are byproducts of the meat and dairy industries and their output depends on the slaughter of animals, not on the demand for hides. Under normal conditions, demand for meat tends to be characteristically stable, subject only to changes arising from the general business cycle. Consequently, the supply of hides and skins tends to parallel the regularity of slaughter and usually*260 shows only minor variations therefrom, year to year. During 1934 the United States experienced a severe drought. Livestock producers throughout the Middle West and West were confronted with lack of range and scarcity of feed. The Federal Government undertook an emergency program to relieve the drought-stricken areas. Under this program the Government, in 1934 and early 1935, purchased a total of 8,286,000 cattle and calves. The purchase and slaughter of these animals, in addition to the existing commercial slaughter, disrupted the cattle cycle. Livestock numbers were reduced, as shown in the table below: *833 All cattle 2 Year 1 Index (1,000) numbers 1922-39 = 100 [1922] 68,795 [1923] 67,546 [1924] 65,996 [1925] 63,373 [1926] 60,576 [1927] 58,178 [1928] 57,322 [1929] 58,877 [1930] 61,003 [1931] 63,030 [1932] 65,801 [1933] 70,280 [1934] 74,369 [1935] 68,846 [1936] 67,847 [1937] 66,098 [1938] 65,249 [1939] 66,029 [1940] 68,197 [105] Averages: 1936-1939 66,306 [102] 1937-1940 66,393 [102] 1922-1939 64,956 [100] Besides the Government*261 drought slaughter, enforced liquidation of herds because of the drought brought many animals to market through commercial channels which ordinarily would not have been slaughtered. Shortly after the Government's program was initiated, it became apparent that supplies of domestic cattle hides and calf skins would be greatly increased. Discussion of the problem by industry and Government representatives led to an agreement that hides and skins taken from drought animals would be kept off the market and liquidated subsequently in the most orderly fashion possible. This agreement was reached on September 5, 1934. By that date a large number of hides and skins had already come onto the market. In addition, animals which had been granted by the Federal Government to several States and were slaughtered for the account of such States were not subject to the agreement. Hides and skins from these State-acquired animals were not held off the market until 1935. As a result of the Government drought cattle program, at least 6,161,000 drought hides and skins became available. These hides and skins were disposed of in the following manner: Sold by Federal Surplus Commodities Corporation and States: Year Hides and skins [1935] 9,000 [1936] 1,363,000 [1937] 671,000 [1938] 141,000 Sold by packers and dealers: [1934] 3,077,000 [1935] 900,000 Total 6,161,000 *262 *834 The sales and inventories of cattle hides by the Federal Surplus Commodities Corporation during the years 1936 through 1939, so far as data were available, were as follows: Sales: Number of hides Value 1936 (calendar year) 1,079,999 $ 2,790,134.71 1937 (fiscal year, 1937) 1,751,726 (1) Cumulative sales to June 30, 1937 (1) 6,232,441.11 Inventories: Dec. 31, 1935 2,072,160 (1) July 1, 1936 2,072,160 (1) Dec. 31, 1936 812,136 (1) June 30, 1937 140,765 338,784.81 June 30, 1938 (1) 257,732.30 June 30, 1939 (1) 71,663.70 The stocks of cattle hides and cattle leather in the United States during each of the years 1922 through 1940 were as follows: Leather in Total process and Hides, raw Year 1 finished In thousands of equivalent hides [1922] 24,944 19,251 5,693 [1923] 24,258 18,355 5,904 [1924] 20,919 16,666 4,252 [1925] 19,030 14,956 4,074 [1926] 17,355 13,114 4,242 [1927] 14,929 11,445 3,484 [1928] 15,797 12,120 3,677 [1929] 15,542 11,772 3,770 [1930] 16,188 12,153 4,035 [1931] 15,598 11,586 4,011 [1932] 15,406 11,183 4,223 [1933] 14,533 10,464 4,069 [1934] 15,559 10,428 5,131 [1935] 17,630 10,976 6,654 [1936] 17,474 11,394 6,080 [1937] 15,478 10,907 4,571 [1938] 13,966 10,124 3,842 [1939] 13,015 9,267 3,748 [1940] 12,922 9,004 3,918 Averages: 1936-1939 14,983 10,423 4,560 1937-1940 13,845 9,826 4,020 1922-1939 17,090 12,564 4,526 *263 Leather in Total process and Hides, raw Year 1 finished Index numbers 1922-39 = 100 [87] Averages: 1936-1939 [101] 1937-1940 [89] 1922-1939 [100] The following table illustrates the consumption of domestic tanned cattle-hide leather in the United States by uses during the years 1922 through 1940: *835 Number of hides used for -- Year Shoes Belting Harness Luggage Upholstery Other Total Thousands of hides [1922] 21,047 1,072 [632] 24,825 [1923] 21,647 1,402 [750] 25,909 [1924] 21,009 2,121 [782] 25,686 [1925] 19,466 [567] 22,970 [1926] 20,282 1,047 [717] 23,766 [1927] 19,416 [511] 22,529 [1928] 16,270 [437] 18,875 [1929] 17,296 1,001 [353] 19,854 [1930] 14,424 [328] 16,310 [1931] 15,159 [299] 16,751 [1932] 14,177 [210] 15,219 [1933] 16,833 [300] 18,278 [1934] 17,278 [350] 19,186 [1935] 19,389 [452] 21,759 [1936] 20,336 [417] 22,775 [1937] 19,404 [481] 22,013 [1938] 18,580 [374] 20,291 [1939] 20,157 [504] 22,470 [1940] 18,650 [561] 21,147 Averages: 1936-1939 19,619 [444] 21,887 1937-1940 19,198 [480] 21,480 1922-1939 18,454 [470] 21,081 *264 The comparative prices per pound of heavy native steer hides, heavy country steer hides, country hides, harness leather, and sole leather for each of the years 1922 through 1940 are set forth below: Heavy Heavy Country Harness Year native country hides leather Sole leather steer hides steer hides [1922] $ 0.180 $ 0.120 $ 0.084 $ 0.437 $ 0.519 [1923] .167 .114 .087 .457 .508 [1924] .147 .113 .082 .414 .449 [1925] .160 .129 .105 .440 .482 [1926] .140 .116 .090 .437 .438 [1927] .195 .160 .139 .468 .493 [1928] .238 .185 .174 .543 .641 [1929] .171 .121 .108 .507 .529 [1930] .139 .085 .077 .447 .452 [1931] .091 .060 .051 .387 .365 [1932] .061 .038 .029 .345 .291 [1933] .097 .063 .051 .342 .309 [1934] .100 .060 .051 .348 .290 [1935] .130 .072 .058 .355 .344 [1936] .139 .087 .075 .378 .357 [1937] .172 .116 .100 .409 .415 [1938] .118 .077 .071 .397 .317 [1939] .123 .091 .090 .400 .320 [1940] .125 .093 .097 .407 .334 Averages: 1937-1940 .135 .094 .090 .403 .347 1922-1939 .143 .100 .085 .417 .418 Beginning in the latter part of 1937 the United States experienced a drastic decrease in total economic*265 activity. The economy recovered quickly, but 1938 was a depressed year. There was a severe decline in farm product prices in 1938 and 1939. The price of grain, which was one of the principal crops in petitioner's western trading area, *836 and the price of cotton, a major crop in petitioner's southern trading area, both fell sharply. The estimated number of horses and mules on farms in the United States declined steadily from 1918 through 1940. During petitioner's base period years the estimated number dropped from 15,802,000 in 1937 to 14,481,000 in 1940. Throughout the period July 1, 1932, to June 30, 1940, inclusive, petitioner's sales, by type of product, were as follows: Fiscal year ended Welting Offal and June 30 leather miscellaneous Washers [1933] $ 150,866.97 $ 3,378.19 $ 16,418.77 [1934] 263,917.73 11,431.00 29,219.51 [1935] 153,006.92 11,874.35 40,846.84 [1936] 264,718.24 26,319.02 25,582.02 [1937] 319,084.92 46,155.03 11,671.97 [1938] 200,145.25 28,790.86 32,769.82 [1939] 208,121.76 11,784.59 7,541.40 [1940] 322,657.22 19,198.40 4,573.95 Fiscal year ended Total sales June 30 Specialty Saddlery to customers [1933] $ 21,283.77 $ 192,931.69 $ 384,879.39 [1934] 21,406.02 395,293.82 721,268.08 [1935] 20,908.54 481,220.90 707,857.55 [1936] 26,905.24 478,021.50 821,546.02 [1937] 41,756.24 572,830.45 991,498.61 [1938] 38,586.48 287,676.77 587,969.18 [1939] 45,792.79 292,863.15 566,103.69 [1940] 21,370.61 435,682.16 803,482.34 *266 The profits of petitioner's predecessor partnership for each of the fiscal years 1921 through 1929, and petitioner's net sales and net taxable income for each of the fiscal years 1930 through 1940 were as follows: Petitioner's Predecessor Partnership Profit after Fiscal years deduction for partners' salaries [1921] $ 18,204.29 [1922] 82,304.66 [1923] 90,166.00 [1924] 64,200.08 [1925] 45,591.47 [1926] 43,149.72 [1927] 46,757.10 [1928] 62,239.35 [1929] 20,503.58 Petitioner Net income adjusted to be Fiscal years Net sales comparable to excess profits net income [1930] $ 806,129.75 $ 48,871.01 [1931] 529,362.76 16,924.82 [1932] 303,986.97 9,397.42 [1933] 384,879.39 53,903.94 [1934] 721,268.08 85,436.52 [1935] 707,857.55 138,101.85 [1936] 821,546.02 128,930.75 [1937] 991,498.61 145,983.80 [1938] 587,969.18 16,050.11 [1939] 566,103.69 31,613.97 [1940] 803,482.34 37,583.19 *837 Petitioner's net sales during the first 6 months of the calendar year 1937 were greater than its net sales for the first half of any of the calendar years 1935, 1936, 1938, 1939, or 1940. The reduction in sales to be experienced by petitioner in 1938 was first*267 noticeable in October 1937. Net sales for the last half of the calendar year 1937 amounted to $ 362,330.69, as compared with net sales of $ 526,395.53 for the last half of the calendar year 1936. A comparative index of earnings for all corporations, for leather and leather products (including shoes), and for the Moser Leather Company for each of the years 1922 through 1940 is set forth below: Group earnings Earnings of of leather Moser Year all corporations 1 and leather Leather products Company (including earnings 1 shoes) 1 [1922] 132.6 238.0 133.9 [1923] 175.4 135.2 146.7 [1924] 149.1 143.4 104.5 [1925] 211.9 175.8 74.2 [1926] 208.6 173.1 70.2 [1927] 181.0 288.5 76.1 [1928] 228.7 184.2 101.4 [1929] 243.0 150.8 33.4 [1930] 43.1 (94.8) 79.5 [1931] (91.4) (129.2) 27.5 [1932] (156.9) (160.8) 15.3 [1933] (70.8) 100.0 87.7 [1934] 2.6 70.6 139.0 [1935] 47.1 144.5 224.7 [1936] 121.5 128.2 209.8 [1937] 122.5 70.1 237.5 [1938] 44.7 18.0 26.1 [1939] 125.3 129.4 51.4 [1940] 181.9 134.8 61.2 Average: 1937-1940 118.6 88.1 94.1 In many instances members of the tanning*268 industry took heavy inventory losses in 1937 and 1938. Petitioner's ending inventories for each of the fiscal years 1929 through 1940 were as follows: Fiscal year ending June 30 Leather Hides Other Total [1929] $ 66,301.75 $ 45,192.01 $ 13,132.77 $ 124,626.53 [1930] 87,180.09 37,042.41 14,895.95 139,118.45 [1931] 80,522.25 27,478.88 8,358.70 116,359.83 [1932] 38,613.05 11,972.70 2,834.00 53,419.75 [1933] 51,062.88 78,562.23 4,513.08 134,138.19 [1934] 61,355.47 45,139.55 9,471.54 115,966.56 [1935] 74,314.53 45,419.43 8,504.35 128,238.31 [1936] 127,393.65 87,766.53 16,588.20 231,748.38 [1937] 183,983.77 137,397.34 14,642.00 336,023.11 [1938] 202,194.30 34,325.90 12,706.74 249,226.94 [1939] 131,526.99 57,906.75 11,657.11 201,090.85 [1940] 133,277.71 53,914.79 13,274.23 200,466.73 The minutes of the annual meeting of petitioner's stockholders held on July 11, 1938, include the following excerpt: The minutes of the last meeting were read by the Secretary and were approved as read. The business of the Company during the fiscal year just closed was discussed, together with the prospects for the coming year. While the Company *838 had experienced*269 a very unsatisfactory year, it was the opinion of those present that this was due to the very severe general depression of business, as well as adverse market conditions. It was agreed that all indications pointed to a decided improvement in the business of the Company for the coming year. The August Barth Leather Company, primarily a tanner of bag, case, and strap leather, is located in the same city as petitioner and has approximately the same productive capacity. During the base period years harness leather composed no more than 10 or 15 per cent of its total production. The net sales, net income, and ending inventory of the August Barth Leather Company for each of the calendar years 1930 through 1939 are set forth below: Calendar year Net sales Net income 1 Ending inventory [1930] $ 596,088.98 $ 20,190.35 $ 213,148.97 [1931] 331,742.72 9,269.58 298,162.63 [1932] 273,747.16 2 (6,887.68) 353,959.04 [1933] 397,241.62 37,883.21 364,681.38 [1934] 479,505.44 (1,365.71) 294,393.98 [1935] 557,389.18 33,314.95 201,457.79 [1936] 652,039.00 49,203.66 207,773.96 [1937] 761,467.29 48,516.73 131,821.23 [1938] 449,117.03 40,449.95 181,103.79 [1939] 589,411.29 52,991.60 165,084.62 *270 The following table reflects the net sales and comparative net income of 13 leather-tanning companies for the years 1921 through 1940: Year Net sales (Index 1922 - 39 = 100) [1921] $ 25,223,670 69.5 [1922] 31,861,000 87.8 [1923] 35,942,753 99.1 [1924] 35,151,626 96.9 [1925] 37,555,584 103.5 [1926] 38,025,397 104.8 [1927] 49,059,176 135.2 [1928] 47,208,101 130.1 [1929] 44,016,545 121.3 [1930] 30,148,440 83.1 [1931] 24,675,700 68.0 [1932] 18,894,250 52.1 [1933] 26,213,448 72.3 [1934] 29,564,112 81.5 [1935] 38,577,217 106.3 [1936] 42,922,863 118.3 [1937] 41,064,859 113.2 [1938] 37,081,112 102.2 [1939] 45,014,570 124.1 [1940] 50,425,274 139.0 Averages: 1922-1939 36,276,486 100.0 1936-1939 41,520,851 114.5 Year Comparative net income (or loss) (Index 1922 - 39 = 100) [1921] $ 48,606 6.0 [1922] 2,318,789 284.6 [1923] 1,256,789 154.2 [1924] 2,141,630 262.8 [1925] 1,745,578 214.2 [1926] 1,436,143 176.3 [1927] 4,035,802 495.3 [1928] 814,795 100.0 [1929] 212,991 26.1 [1930] (1,829,743) (224.6) [1931] (2,066,953) (253.7) [1932] (1,450,653) (178.0) [1933] 1,149,330 141.1 [1934] 451,024 55.4 [1935] 1,588,972 195.0 [1936] 1,660,828 203.8 [1937] 125,820 15.4 [1938] (54,858) (6.7) [1939] 1,130,442 138.7 [1940] 1,971,899 242.0 Averages: 1922-1939 814,818 100.0 1936-1939 715,558 87.8 *271 Petitioner's normal production and operation was interrupted and diminished during the fiscal year ended June 30, 1937, by the Ohio River flood, an event unusual and peculiar in its experience. *839 Petitioner has not established facts resulting from the flood from which we can reconstruct an excess profits credit greater than that available to petitioner without the application of section 722. Petitioner has failed to establish that its business was depressed in the base period, either because of temporary economic circumstances unusual in the case of the petitioner or because of temporary economic events unusual in the case of the industry of which it was a member. OPINION. The petitioner's claims for relief are predicated upon two grounds: First, that the normal production, output, and operation of the petitioner were interrupted during the base period by the Ohio River flood of January 1937, an event unusual and peculiar in the experience of the petitioner; and second, that the business and earnings of the petitioner and of the industry of which it was a member during the base period years were adversely affected by an unprecedented drought in the United States during the*272 year 1934, an event temporary and unusual in the experience of petitioner or its industry. These claims were formulated under Code section 722(b)(1) and (b)(2). 2 *273 To be entitled to relief under section 722(b)(1) it is incumbent upon petitioner to show that its average base period net income is an inadequate standard of normal earnings because "in one or more taxable years in the base period normal production, output, or operation was interrupted or diminished because of the occurrence, either immediately prior to, or during the base period, of events unusual and peculiar in the experience of such taxpayer." Respondent concedes that the Ohio River flood of 1937 was an event such as described in subsection 722(b)(1), but denies that petitioner's average base period net income is an inadequate standard of normal earnings by reason thereof. If the entire amount claimed by petitioner as flood loss ($ 6,584.58 stipulated identifiable expenses, plus $ 11,107.93 reconstructed lost profits) were restored to income for *840 1937, the excess profits credit computed upon the average base period net income as so reconstructed would not equal the credits available to petitioner under the invested capital method. Hence, it has not been shown that petitioner's taxes were unjust and discriminatory because of the flood. Avey Drilling Machine Co., 16 T.C. 1281 (1951). *274 Respondent correctly denied petitioner's claims for relief under section 722(b)(1). It is axiomatic that for a taxpayer to be entitled to relief under section 722(b)(2) its business must have been depressed in the base period because of temporary economic circumstances unusual in the case of such taxpayer or because of the fact that an industry of which such taxpayer was a member was depressed by reason of temporary economic events unusual in the case of such industry. Monarch Cap Screw & Manufacturing Co., 5 T.C. 1220 (1945). Petitioner's argument rests basically on the severe drought of 1934 with the consequent economic dislocation. It points to the glut of hides which flooded the market; the intervention of the Government and its large purchases of cattle; and the reduction in the purchasing power of the farmer, which factors resulted, so petitioner contends, in the narrowing of the margin of profit between the cost of raw materials and the selling price of finished leather. On the record before us we cannot agree either with petitioner's factual premise or the conclusion it asks us to draw. Assuming, arguendo, that its business in the base*275 period was depressed, petitioner must still connect the events relied upon for relief with its own net income for the base period years. Hougland Packing Co., 28 T.C. 519 (1957). This cannot be assumed. A. B. Frank Co., 19 T.C. 174 (1952), affd. 211 F. 2d 497 (C.A. 5, 1954). Careful scrutiny of the evidence before us reveals that, excepting a stabilization or mild decline in 1934, the year of the drought, hide prices increased steadily from 1932 through 1937. The evidence further shows that while price margins between hides and sole leather shrank in 1934, and margins between hides and harness leather contracted in 1935, margins between hides and both sole and harness leather had increased substantially by 1937 and, with the exception of the margin between heavy native steer hides and harness leather, were greater than any year since 1932. Hide prices and the price margin between hides and sole leather fell sharply in 1938, a year of general business depression. The margin between hides and harness leather continued to increase in 1938, but fell off slightly in 1939. If, as petitioner contends, *276 the narrowing of margins and the decrease in profits suffered by the petitioner and the tanning industry during the base period years were a long-term result of the drought of *841 1934, it seems only logical to assume that the depressive effects of the drought would have been particularly apparent in the years 1935, 1936, and 1937, the years immediately following the drought and during which the surplus of hides was greatest. However, as shown above, this was for the most part a period of rising hide prices and widening price margins. Petitioner's operations during the postdrought period were particularly successful. Harness and collar leather usually accounted for more than 50 per cent of petitioner's total sales, the other major product being shoe-welt leather. Petitioner produced harness leather principally from packer heavy steer hides, and collar and shoe-welt leather from country hides. The price margins between heavy hides and harness leather broadened considerably between 1935 and 1938. No evidence was submitted as to the annual wholesale price of collar leather specifically; however, the margin between country hides and harness leather, generally, grew almost steadily*277 from 1934 through 1938. Similarly, no evidence was submitted as to the annual wholesale price of shoe-welt leather specifically; however, the price margin between country hides and sole leather, generally, increased markedly between 1934 and 1937. Petitioner's profits during the fiscal years 1935, 1936, and 1937 were far greater than its profits for any of the other fiscal years 1930 through 1940 or the profits of its predecessor partnership for any of the fiscal years 1921 through 1929. It is clear that petitioner has failed to show that its price margins, or the price margins of the tanning industry, were narrowed during the base period as a direct or indirect result of the drought of 1934 and has thus failed to establish the cornerstone of its argument. Petitioner further contends that the drop in farm prices experienced by this country in 1938 was aggravated by long-term effects of the drought of 1934, and that as a result of this decline in farm prices the purchasing power of the farmers in petitioner's midwestern, northwestern, and southern trade areas was reduced with an accompanying decline in demand for petitioner's harness leather. Petitioner produced no farm income figures*278 relative to its trading areas to reinforce its argument. Furthermore, petitioner's own expert witness admitted that the drought of 1934 had only a minor influence on farm prices for leather in 1938 and 1939. We are of the opinion that petitioner's reduced profits in the base period resulted not from the drought of 1934 but from the effect of the general business decline of late 1937 and 1938 upon the highly volatile leather industry, and upon petitioner, particularly. Petitioner's president thus characterized the industry -- *842 The tanning industry is one which is affected to a marked extent by price and volume fluctuations and as a result thereof the earnings of the leather industry have shown considerably greater variations than in almost any other industry. This results from the nature of the process, length of turnover, high proportion of inventory assets to capital and the extreme swings which occur in raw material prices. Such factors are, however, no basis for relief under section 722. Petitioner has not shown a causal relationship between the events relied upon for relief and its reduced earnings, or the reduced earnings of the tanning industry during the base *279 period years. We must conclude that petitioner has failed to prove that its business was depressed during the base period because of the drought of 1934 or because the tanning industry, of which it was a member, was depressed as a consequence of the drought. Cf. Trunz, Inc., 15 T.C. 99 (1950). Respondent correctly denied petitioner's claims for relief under section 722(b)(2). Reviewed by the Special Division. Decision will be entered for the respondent. Footnotes 1. Unless otherwise indicated, all references to Code section numbers are to the Internal Revenue Code of 1939.↩ 2. Estimated number.↩ 1. Jan. 1, each year.↩ 1. Not available.↩ 1. Monthly average.↩ 1. 1922 - 40 = 100.↩ 1. Before Federal income and excess profits taxes.↩ 2. Parentheses denote minus figure.↩ 2. SEC. 722. GENERAL RELIEF -- CONSTRUCTIVE AVERAGE BASE PERIOD NET INCOME. (b) Taxpayers Using Average Earnings Method. -- The tax computed under this subchapter (without the benefit of this section) shall be considered to be excessive and discriminatory in the case of a taxpayer entitled to use the excess profits credit based on income pursuant to section 713, if is average base period net income is an inadequate standard of normal earnings because -- (1) in one or more taxable years in the base period normal production, output, or operation was interrupted or diminished because of the occurrence, either immediately prior to, or during the base period, of events unusual and peculiar in the experience of such taxpayer, (2) the business of the taxpayer was depressed in the base period because of temporary economic circumstances unusual in the case of such taxpayer or because of the fact that an industry of which such taxpayer was a member was depressed by reason of temporary economic events unusual in the case of such industry,↩