14 T.C. 1034">*1034 The deficiencies determined against petitioner are in the amounts of $ 997.70 and $ 11,111.43 income tax for the calendar years 1940 and 1941, respectively, and $ 34,918.30 excess profits tax for the calendar year 1941. Further, respondent disallowed petitioner's application for relief and claim for refund for 1941 filed under section 722 of the Internal Revenue Code as amended.

All assignments of error with respect to respondent's adjustments affecting petitioner's income tax liability for each of the years 1940 and 1941 have been settled by stipulation made at the hearing. Further, with respect to one phase of petitioner's business involving the manufacture and sale of compressed baker's yeast, the parties have stipulated the fair and just amounts representing1950 U.S. Tax Ct. LEXIS 187">*189 petitioner's normal earnings therefrom for each of the base period years 1936 to 1939, inclusive, after application of section 722 of the Internal Revenue Code because of changes in the source of material, the process of manufacture, and the method of doing business. Effect to the foregoing stipulations will be given in the recomputation under Rule 50.

At the hearing petitioner filed an amended petition whereby it withdrew an allegation of error relative to unused excess profits credit carry-backs from 1942 and 1943 in the determination of its excess profits tax liability for 1941, and since the hearing the parties by written stipulation have stricken from the petition all allegations of error and claim for refund based upon section 721 of the code.

The two remaining issues in controversy are whether respondent erred (1) with respect to petitioner's beer business, in denying petitioner's application for excess profits tax relief under section 722 (b)14 T.C. 1034">*1035 (2) and (b) (4) of the code and denying its claim for refund of $ 35,439.73 excess profits tax for 1941; and (2) in failing to determine the amount of petitioner's unused excess profits tax credit carryover from 1940 to be1950 U.S. Tax Ct. LEXIS 187">*190 applied in determining its unused excess profits credit adjustment for the taxable year 1941.

The proceeding has been submitted upon the pleadings, testimony, exhibits, and stipulations of facts. The stipulated facts are included herein by reference, but only such portions thereof as we deem necessary in considering the controverted issues are set forth in our findings.

FINDINGS OF FACT.

Petitioner, a California corporation, with its principal office in San Francisco, is engaged in the business of manufacturing and selling fermented malt liquors (beer) and bakers' compressed yeast. It keeps its books and files its Federal tax returns on a calendar year accrual basis. Its income and excess profits tax returns for 1941 were filed on May 15, 1942, with the collector of internal revenue for the first district of California. An original application for relief and refund (Form 991) for the taxable year 1941 was filed on August 16, 1944, and under that application and amendments thereto petitioner claimed relief under section 722 (b) (1), (2), (4), and (5) of the code, and a refund of excess profits tax for 1941 in the amount of $ 35,439.73 which was paid in installments of $ 10,842.431950 U.S. Tax Ct. LEXIS 187">*191 on March 16, 1942; $ 6,877.45 on June 15, 1942; $ 8,859.93 on September 15, 1942; and $ 8,859.92 on December 10, 1942.

The petitioner was incorporated on January 3, 1920, under the name of Cereal Products Refining Corporation, but its organization was not perfected and it did not commence business operations until July 1, 1921, when it acquired all the assets, including two brewery plants, and the business of the California Brewing Association. At that time the manufacture and sale of malt beverages containing one-half of 1 per cent or more of alcohol by volume was prohibited by law and from then until on or about April 7, 1933, petitioner continued its predecessor's business of producing and selling a cereal beverage commonly called near beer, which involved the process of brewing and dealcoholizing real beer. Also, it engaged in the business of manufacturing baker's compressed yeast, malt syrup, and carbonated beverages. During that period petitioner retained its key brewery personnel and maintained its plant facilities in good condition to produce beer in the event of repeal of the above mentioned law, except that in 1930 it dismantled one of its two brewery plants and moved1950 U.S. Tax Ct. LEXIS 187">*192 certain machinery and equipment therefrom to its one remaining plant, which constitutes its present brewhouse located in San Francisco. The brewing capacity of that plant was approximately 50,000 barrels of beer per month during the years 1936 to 1939, the same as when it was 14 T.C. 1034">*1036 formerly owned and operated by the National Brewing Co. in 1917.

On or about April 7, 1933, petitioner, along with other companies equipped to produce fermented malt liquors, commenced the manufacture and sale of beer having an alcoholic content of 3.2 per cent by weight, as permitted by the enactment of the Cullen-Harrison Act. Since then petitioner has continued producing beer which it has sold principally in the territory embracing San Francisco and Northern California. On April 1, 1936, petitioner changed its name to Acme Breweries.

At all times since the incorporation of petitioner, its capital stock has been owned by five nonoperating holding companies, namely, the National Brewing Co., the Union Brewing & Malt Co., the Broadway Brewing Co., the Acme Brewing Co., and the Claus Wreden Brewing Co. Prior to February 1, 1917, those five companies, as operating breweries, had altogether produced1950 U.S. Tax Ct. LEXIS 187">*193 approximately 10 per cent of the beer manufactured in California during the period 1912 to 1916, inclusive. On February 1, 1917, those five companies organized the California Brewing Association and transferred to it their brewery plants and businesses. That association dismantled three of the plants so transferred and, except as limited by World War One restrictions, continued to operate the plants theretofore owned by the National Brewing Co. and the Acme Brewing Co. for the production of beer until enactment of the National Prohibition Act (commonly referred to as the Volstead Act) prohibited the production and sale thereof on and after January 17, 1920. Thereafter, the association engaged in the manufacture and sale of legal cereal beverage (near beer) containing not more than one-half of 1 per cent of alcohol by volume until it transferred its assets and business to petitioner on July 1, 1921.

The Eighteenth Amendment to the Constitution of the United States, which prohibited the manufacture, sale, or transportation of intoxicating liquors for beverage purposes within the United States, became effective on January 16, 1920, and, by ratification of the Twenty-first Amendment1950 U.S. Tax Ct. LEXIS 187">*194 to the Constitution, it was repealed on December 5, 1933. The enforcement law under the Eighteenth Amendment, the National Prohibition Act, effective January 17, 1920, defined the term "intoxicating liquor" to include beer, ale, porter, and other beverages containing one-half of 1 per cent or more of alcohol by volume, and prohibited the use of the words "ale, beer or porter" to describe malt beverages containing less than one-half of 1 per cent of alcohol. Although prior to 1933 approximately 291 bills were introduced in the Congress of the United States to legalize the manufacture, sale, and transportation of beer containing 2.75 per cent or more of alcohol by weight, the Volstead Act prohibition of beer remained 14 T.C. 1034">*1037 continuously in effect until enactment of the Cullen-Harrison Act, effective on April 6, 1933. The latter act modified the definition of the term "intoxicating liquor" as used in the Eighteenth Amendment to permit, on and after April 7, 1933, the manufacture, sale, and transportation of beer and other malt beverages containing not more than 3.2 per cent of alcohol by weight, which was the equivalent of 4 per cent by volume. Thus the manufacture and sale of1950 U.S. Tax Ct. LEXIS 187">*195 beer in the United States was prohibited by Federal law during the period from January 17, 1920, until April 7, 1933.

In the years immediately preceding national prohibition under the Eighteenth Amendment, and in connection with the prosecution of World War I, certain limitations and/or prohibitions were placed on the manufacture and sale of malt and vinous liquors by acts of Congress and by Presidential proclamations issued under wartime emergency powers. A proclamation, dated December 8, 1917, and effective January 1, 1918, limited the use of foods, fruits, food materials, and feeds by any brewer in the production of malt liquor to 70 per cent of the amount of those materials used in the preceding calendar year and also limited the alcoholic content of beer to 2.75 per cent by weight. A proclamation, dated September 16, 1918, prohibited the use of sugar, glucose, corn, rice, or any other foods, fruits, food materials, or feeds, except malt made on or before September 16, 1918, and hops, in the production of malt liquors on and after October 1, 1918, and effective December 1, 1918, absolutely prohibited the use of any and all food materials and feeds, including malt and hops, in1950 U.S. Tax Ct. LEXIS 187">*196 the production of malt liquors, whether or not containing alcohol; but that proclamation was amended by subsequent proclamations, dated January 30 and March 4, 1919, to allow the use of grain in manufacture of nonintoxicating beverages, without defining the term "intoxicating." An Act of Congress approved November 21, 1918, Public Law No. 243, 65th Congress, referred to as the War Prohibition Act, effective from July 1, 1919, until the conclusion of the war and thereafter until the termination of demobilization, prohibited the sale of "beer, wine, or other intoxicating malt or vinous liquors" for beverage purposes except for export, and the quoted term as therein used was, by Public Law No. 66, 66th Congress, effective October 28, 1919, defined to henceforth mean "any such beverages which contain one-half of one per centum or more of alcohol by volume."

During the period from 1851 to 1920 there were approximately only eight states, including California, Kentucky, Louisiana, Minnesota, Missouri, New Jersey, Pennsylvania, and Wisconsin, which did not have some form of state prohibition at some time during those years. During the period 1851 to 1903 sixteen states had tried and abandoned1950 U.S. Tax Ct. LEXIS 187">*197 14 T.C. 1034">*1038 state-wide prohibition. During the period 1904 to 1920, inclusive, the number of states which had state-wide prohibition varied in numbers as follows: two in 1904-1906; four in 1907; five in 1908; eight in 1909; nine in 1910-1911; eight in 1912-1914; ten in 1915; eighteen in 1916; nineteen in 1917; twenty-two in 1918; thirty in 1919; thirty-two in 1920; and in addition the District of Columbia and Alaska in 1918-1920 and Hawaii in 1919-1920. California was one of sixteen states which did not have state-wide prohibition at any time during the years 1904 to 1920, inclusive.

Prior to 1921 California never prohibited the manufacture, sale, or use of beer on a state-wide basis, but under local option some counties did. In general elections the people of California twice rejected proposed state-wide prohibition measures during the period 1910-1920 and in 1920 rejected a measure providing for state enforcement of the Volstead Act. The California Prohibition Enforcement Act (Wright Act) of 1921 was enacted as an incident to and an aid in the enforcement of national prohibition.

In the malt (beer), carbonated beverages, cereal beverages (near beer), and nonalcoholic still beverages1950 U.S. Tax Ct. LEXIS 187">*198 industries, the wage earners employed and wages paid; the "value of products," meaning quantitative production multiplied by an average sales price per unit; and the "value added by manufacture," meaning the value of products less cost of materials, amounted to the following percentages in relation to all manufacturing in the United States and in California, respectively, as compiled from the U. S.Census of Manufacturers, for the designated years:

In connection with the above tabulation, the "value of products" figures which are reported by brewers to the Bureau of the Census contain, in addition to the market value of beer, the market value of all other products brewers produce. Further, the number of brewers reporting "value1950 U.S. Tax Ct. LEXIS 187">*199 of products" to the Bureau of the Census are not precisely the same as the number of brewers reporting tax-paid withdrawals of beer to the Commissioner of Internal Revenue.

The selling price of beer in the United States and in California14 T.C. 1034">*1039 during 1936-1939 was about double what it was during 1909-1913. The actual cost of producing beer and the selling price thereof in the United States and California during 1936-1939 would not have been materially different if national prohibition had never existed.

During the years 1934-1939 approximately 3,000,000 acres per year were cultivated in the United States to supply agricultural products used in the brewing industry, including principally barley, corn, rice, hops, and, to some extent, wheat, bran, syrup, and sugar. In 1932 only about 150,000 acres were cultivated to supply the agricultural products used in the legal cereal beverage industry. The consumption of barley in the brewing industry in thousands of bushels and the percentage relation thereof to the total industrial consumption for the indicated fiscal years ended June 30, as compiled from U. S. Statistics Concerning Alcoholic Beverages, were as follows:

1950 U.S. Tax Ct. LEXIS 187">*200 For the indicated years, the population in thousands in areas in the United States and in California, respectively, permitting the sale of alcoholic liquors and in areas not permitting such sales, designated as "Dry" and "Wet," was approximately as follows:

During the period from 1911 to 1919 a comparison of wet areas to dry areas in square miles in the United States and California, respectively, discloses a relatively steady decrease in the wet areas and a corresponding increase in the dry areas. In the United States, out of a total of 2,973,890 square miles, the wet areas embraced 853,502 square miles in 1911 and 138,523 square miles in 1919. In California, out of a total of 155,652 square miles, the wet areas under local option embraced 87,551 1950 U.S. Tax Ct. LEXIS 187">*201 square miles in 1911 and 60,652 square miles in 1919.

14 T.C. 1034">*1040 For the indicated years, the number of breweries, the beer production in thousands of barrels, the population in millions, the beer produced in gallons per capita, and also, on the basis of tax-paid withdrawals, the per capita gallons of beer consumption in the United States, were in the following approximate amounts:

1950 U.S. Tax Ct. LEXIS 187">*202 On the basis of the entire population of the United States and for the indicated periods, the approximate average annual tax-paid withdrawals and/or consumption of beer in gallons per capita; the average estimated annual consumer dollar of real income per capita; and the approximate average annual withdrawals and/or consumption of beer in gallons per dollar of such estimated income, were as follows:

During the four base period years 1936-1939 the average beer consumption in the United States in gallons per capita was approximately 65 per cent of the average during 1909-1917. Such lower per capita consumption during 1936-1939 was due in part to the increase in population without a corresponding increase in consumption during that period. The average annual production of 55,811,000 barrels of beer in the United States during 1936-19391950 U.S. Tax Ct. LEXIS 187">*203 amounted to approximately 14 T.C. 1034">*1041 91 per cent of the average annual production of 61,349,000 barrels of beer during the period 1909-1917. During the years 1936-1939 the average beer consumption in the United States in gallons per estimated dollar of real income was approximately 51 per cent of the average during 1909-1917. Such lower rate of consumption per dollar of real income during 1936-1939 was due in part to the lower consumption in gallons per capita and the higher estimated dollar of real income per capita during that period.

In the United States, wherein national prohibition against beer did obtain during the period 1920 to 1933 as compared with Canada, Australia, and New Zealand, wherein such prohibition did not obtain, the per capita average annual consumption of beer during the period 1936-1939, the per capita average annual consumption for the stated earlier period of years, and the former's approximate percentage of the latter, respectively, were as follows:

In California the breweries in operation steadily decreased in number from 105 in 1909 to 71 in 1917, and also from 43 in 1936 to 35 in 1939. During the period from 1909 to 1919 the tax-paid withdrawals of beer from California breweries in thousands of barrels rose from 1,189 in 1909 to a peak of 1,530 in 1917, and then declined to 1,466 in 1918 and 645 in 1919. Such withdrawals amounted to an average annual 1,318 thousand barrels during 1909-1917. In California for the period 1934 to 1939 the population in thousands; the consumer income per capita; the tax-paid withdrawals of beer in thousands of barrels from California breweries; and the actual consumption of beer in thousands of barrels and in gallons per capita were as follows:

1950 U.S. Tax Ct. LEXIS 187">*205 14 T.C. 1034">*1042 The tax-paid withdrawals of beer from California breweries, which approximated consumption, amounted to an annual average of 2,511,000 barrels during the four base period years 1936-1939, or 190 per cent of the average annual withdrawals of 1,318,000 barrels of beer during the period 1909-1917. As above stated with reference to the entire United States, the average annual production of beer for the period 1936-1939 amounted to 91 per cent of the production for the period 1909-1917. During the years 1936-1939 the average annual consumption of beer per capita of the entire population of California was approximately 11.8 gallons or 92.9 per cent of the average of 12.7 gallons per capita consumption for the entire population of the United States. During the years 1936-1939 the average annual consumption per dollar of average consumer income per capita was approximately .015 gallon in California as compared with the .023 gallons per dollar of real income for the entire United States during the same period.

With respect to the population increase in California as compared with that in the entire United States, the average population of each for the periods 1909-1913, 1910-1914, 1950 U.S. Tax Ct. LEXIS 187">*206 1914-1917 and 1936-1939 and also, as to each, the percentages that the 1936-1939 average is to the averages of the other periods, are as follows:

The petitioner's five corporate stockholders had produced approximately 10 per cent of the beer produced by California breweries when they were engaged in the brewery business during the five-year period 1912 to 1916, inclusive. On the basis of tax-paid withdrawals from California breweries during that period, which amounted to an annual average of 1,335,000 barrels, those five corporations had total tax-paid 14 T.C. 1034">*1043 withdrawals averaging 133,500 barrels per year during that period. During the years 1936-1939 the petitioner's actual sales of beer averaged1950 U.S. Tax Ct. LEXIS 187">*207 278,023 barrels per year, or approximately 11 per cent of the total annual average of 2,511,000 barrels of tax-paid withdrawals of beer from California breweries during that period.

The advent of national prohibition in January, 1920, legally terminated the brewing industry in so far as concerned the supply of legal real beer. During the prohibition era there was a decided change in certain personal habit patterns theretofore existing among varying portions of the California and the national population with respect to the taste for and the consumption of real beer and, further, persons reaching maturity during that era and who might have otherwise cultivated a taste for beer were denied the opportunity to do so. Also, during the prohibition era people of all ages formed habits as to the consumption of other, or so-called substitute, beverages.

During the prohibition era petitioner manufactured, advertised, and sold bottled near beer, but the demand for such product was not large. Immediately upon the enactment of the Cullen-Harrison Act and on or about April 7, 1933, petitioner engaged generally in the manufacture and sale of beer, and approximately 25 per cent of its product was1950 U.S. Tax Ct. LEXIS 187">*208 then packaged in bottles and cans while the other 75 per cent of its product consisted of draught beer. At or about the same time in 1933 petitioner adopted a long range advertising program, embracing virtually every known media and patterned somewhat after the advertising used for the sale of Coca-Cola, which campaign was designed to enlarge the market for Acme packaged beer. There was a "lag" between the time the advertising program was entered upon and the time when results began to be realized therefrom, but after results began to be realized, and due to the continuous advertising and the demand of the trade, the percentage of petitioner's packaged beer sales steadily increased until packaged sales constituted the primary method of marketing petitioner's product, as contrasted to its sales of draught beer.

During 1936-1939 the petitioner's intercompany sales to the Acme Brewing Co. of Los Angeles, all of which consisted of bottled and canned beer, amounted to 36,155 barrels in 1936; 9,731 barrels in 1937; 9,374 barrels in 1938; and 9,666 barrels in 1939. Excluding these intercompany sales, the petitioner's total barrel sales of beer, its barrel sales of packaged beer in both1950 U.S. Tax Ct. LEXIS 187">*209 bottles and cans, the per cent of packaged beer of total sales, and the per cent of barrelage increase in 14 T.C. 1034">*1044 packaged sales over the preceding year, during 1936-1939, were as follows:

During each of the years 1936-1939 petitioner's total barrel sales of beer varied in amount, but in 1939 reached a peak for that period. Of the total sales made in each of the years 1936-1939, the percentage thereof consisting of packaged sales steadily increased to 80 per cent in 1939.

In the entire State of California and the entire United States, respectively, the total tax-paid withdrawals of beer in thousands of barrels, the total tax-paid withdrawals in thousands of barrels for packaged beer, the percentage of packaged beer withdrawals of the total, and the per cent of barrelage increase in packaged beer withdrawals over1950 U.S. Tax Ct. LEXIS 187">*210 the preceding year, during 1934-1939, were as follows:

During 1934-1939, as to both California and the United States, the total tax-paid withdrawals of beer 1950 U.S. Tax Ct. LEXIS 187">*211 reached a peak amount in 1937, but of the withdrawals in each of those years the percentage thereof for packaged beer steadily increased to a peak in 1939. During 14 T.C. 1034">*1045 each of the years 1934-1939 the percentage of withdrawals for packaged beer was considerably greater for California than for the United States. Further, during the period 1936-1939 the above percentage of tax-paid withdrawals for packaged beer in California was consistently greater than the percentage of packaged sales by petitioner as shown in the preceding paragraph.

With respect to petitioner's brewing plant, its capacity to produce beer is determined by the size and method of operation of its kettle; its capacity to produce draught beer is determined by the number of kegs it owns and the available facilities for washing, handling and filling kegs; and its capacity for packaged beer is determined by the number of bottling lines in operation, the capacity of those lines per hour, the number of hours per week the lines can be operated, and the number of different sizes of bottles used. During 1936-1939 petitioner's capacity to produce beer totaled approximately 50,000 barrels per month, to be divided between1950 U.S. Tax Ct. LEXIS 187">*212 draught beer and packaged beer. Petitioner's maximum capacity for filling kegs with draught beer was approximately 25,000 barrels per month. Petitioner's maximum theoretical capacity for packaged beer, both bottled and canned, was approximately 50,000 barrels per month, but that theoretical bottling capacity was based on producing no keg beer and on one bottling line being operated the maximum number of hours per week, entirely on 32-ounce bottles, the optimum size for that line, and also on the canned line being operated the maximum number of hours per week. During 1936-1939 petitioner did not operate at full capacity and its ability to produce packaged beer was limited because it filled 11-, 22-, and 32-ounce bottles, and the adjustments of the machines to accommodate different sizes of bottles cut down operating time, the smaller bottles cut down the amount measured in barrels used per hour in pipe line operation for filling bottles, and the bottling line had to be operated a good portion of the time in the slower procedure of filling 11-ounce bottles preferred by the trade.

The petitioner's total beer sales in barrels and the distribution thereof in its sales of bottled, canned, 1950 U.S. Tax Ct. LEXIS 187">*213 and draught beer during 1936-1939 were as follows:

14 T.C. 1034">*1046 The percentages of petitioner's bottled, canned, and draught beer sales of its total barrel sales of beer during 1936-1939 were as follows:

Petitioner's gross dollar sales, cost of sales (including excise taxes), and gross profits on bottled, canned, and draught beer, and the totals thereof, and also petitioner's total beer operating expenses and net profits for each of the years 1936-1939 were as follows:

1950 U.S. Tax Ct. LEXIS 187">*214 The petitioner's dollar sales of beer and its gross profit per barrel by type during 1936-1939 were as follows:

14 T.C. 1034">*1047 Based on petitioner's total beer operating expenses and total beer net profits as above shown for each of the years 1936-1939 and based on audit reports and an accounting formula for allocating operating expenses, the petitioner's estimated operating expense and net profit per barrel by type of beer sales during 1936-1939 were as follows:

1950 U.S. Tax Ct. LEXIS 187">*215 The petitioner's net income in each year from 1921 through 1939 as shown on its returns was as follows:

The reconstructed normal earnings for petitioner's beer business for the base period years 1936-1939, as claimed in petitioner's application (Form 991) filed with the Commissioner and as now claimed in the instant proceeding, respectively, are as follows:

1950 U.S. Tax Ct. LEXIS 187">*216 14 T.C. 1034">*1048 Certain factors taken into account in the claim filed on Form 991 have been abandoned. The reconstructed normal earnings for petitioner's beer business claimed in this proceeding are based, inter alia, upon a hypothetical beer consumption of 19.2 gallons per capita in the United States and approximately 92.9 per cent thereof, or 17.8 gallons, per capita in California during 1936-1939, absent the advent of national prohibition; a reconstructed total beer consumption in California and a calculated proportion thereof which petitioner would have supplied; the petitioner's reconstructed barrel sales of bottled, canned, and draught beer; and the estimated net profit per barrel of packaged and draught beer. Coupling petitioner's claimed reconstructed normal earnings for its beer business with the agreed normal earnings for its yeast business and net income from other sources, petitioner's claimed total constructive average base period net income amounts to $ 1,209,782

The petitioner's beer business was not depressed during the base period years 1936-1939 because of temporary economic circumstances unusual either in the case of the petitioner or the industry of which petitioner1950 U.S. Tax Ct. LEXIS 187">*217 was a member. Petitioner's actual average base period net income from the beer business as determined by respondent with benefit of the growth formula of section 713 (f), does not constitute an inadequate standard of its normal earnings for any of the base period years, within the meaning of section 722. Except as stipulated herein by the parties with respect to its yeast business, petitioner is not entitled to excess profits tax relief under section 722.

With respect to petitioner's excess profits credit carry-over from 1940 to 1941, the respondent allowed the amount of $ 91,253.12 instead of $ 95,410.22 claimed on the petitioner's return. Respondent's computation of the amount so allowed was based, inter alia, upon an average base period net income of $ 674,843.55 under the growth formula.

OPINION.

In this proceeding the parties have settled by stipulation all assignments of error with respect to petitioner's income tax liability for each of the years 1940 and 1941; and, further, with respect to petitioner's excess profits tax liability for the calendar year 1941, they have stipulated the fair and just amounts representing petitioner's normal earnings from its compressed 1950 U.S. Tax Ct. LEXIS 187">*218 baker's yeast business for each of the base period years 1936-1939, inclusive, after application of section 722 of the Internal Revenue Code.

The first issue presented for our determination is whether, with respect to petitioner's business of brewing and selling beer, respondent erred in his denial of petitioner's claim for relief from excess profits tax for the year 1941, under the provisions of section 722 (a), (b) (2), 14 T.C. 1034">*1049 or (b) ( 4) of the Internal Revenue Code, as amended, the material portions of which are set out in the margin. ¹

1950 U.S. Tax Ct. LEXIS 187">*219 Section 722 provides for relief, in a meritorious case, from excessive and discriminatory excess profits taxes occasioned by an abnormally low excess profits credit, and the relief is afforded through establishing a fair constructive average base period net income to be used in lieu of the average base period net income otherwise determined under the statute, with a consequent increase in the excess profits credit. Monarch Cap Screw & Mfg. Co., 5 T.C. 1220, 1227. In the instant case there is no question raised as to the petitioner's being entitled to use the excess profits credit based on income. The petitioner's actual average base period excess profits net income amounted to $ 602,775 and in his determination respondent granted petitioner a measure of relief by computing its average base period excess profits net income to be in the amount of $ 674,844 under the so-called growth formula, pursuant to section 713 (f), and petitioner does not challenge the correctness of that computation, except that it claims a far greater relief, under section 722, by use of a constructive average base period net income in the amount of $ 1,159,196 for its beer business1950 U.S. Tax Ct. LEXIS 187">*220 alone and in the total amount of $ 1,209,782 for its entire business, based on 14 T.C. 1034">*1050 amounts which petitioner claims should be regarded as representing its normal earnings for the base period years.

Under subsection (a) of section 722 petitioner must establish (1) that its excess profits tax computed without the benefit of that section results in "an excessive and discriminatory tax," and (2) "what would be a fair and just amount representing normal earnings to be used as a constructive average base period net income." Further, where the tax is computed without benefit of section 722 and the taxpayer is entitled to use the excess profits credit based on income, as in the instant case, then under subsection (b) of section 722 the petitioner's excess profits tax "shall be considered to be excessive and discriminatory * * * if its average base period net income is an inadequate standard of normal earnings," because of the existence, in the instant case, of such qualifying conditions as are set forth in subparagraphs (2) and (4) of subsection (b). See cases cited in margin. ²

1950 U.S. Tax Ct. LEXIS 187">*221 Petitioner claims that its base period net income is an inadequate standard of normal earnings because of the existence of several qualifying conditions: First, that within the meaning of subsection (b) (2) the brewing industry of which it was a member (and coincidentally the business of petitioner) was "depressed" during the base period years "by reason of temporary economic events unusual in the case of such industry," namely, national prohibition, or more specifically, the peacetime prohibition of the manufacture and sale of beer under the definition of the term "intoxicating liquors" made by Congress in the Volstead Act; second, that within the meaning of subsection (b) (4) the petitioner immediately prior to and during the base period "changed the character" of its business, with the result that its "average base period net income does not reflect the normal operation for the entire base period" of its beer business, the change consisting of the commencing of the manufacture and sale of beer in April, 1933, coupled with a subsequent change from the sale mainly of draught beer to the sale mainly of packaged (bottled and canned) beer; and, third, that its beer business1950 U.S. Tax Ct. LEXIS 187">*222 "did not reach, by the end of the base period, the earning level which it would have reached" if it had manufactured beer and changed from sales of draught to packaged beer "two years before it did so" because sale of its packaged beer was on a continuous upgrade and was more profitable than draught beer measured by barrel sales. Furthermore, on the basis of allegedly having qualified under subparagraphs (2) and/or (4) of subsection (b) so that its tax "shall be considered to be excessive and discriminatory," petitioner claims that, as required by subsection 14 T.C. 1034">*1051 (a), it has established "what would be a fair and just amount representing normal earnings to be used as a constructive average base period net income for the purposes of an excess profits tax."

Respondent, in denying petitioner's section 722 application for relief and in the present proceeding, takes an opposing position to that of petitioner on all points. First, with respect to the claimed existence of a qualifying condition under subsection (b) (2), respondent contends that national prohibition of beer under the Eighteenth Amendment and the Volstead Act was not an unusual temporary economic event within the1950 U.S. Tax Ct. LEXIS 187">*223 meaning of the taxing statute and that neither the brewing industry nor the petitioner's beer business was depressed, but instead attained a post-prohibition normalcy during the base period years. Second, with respect to the claimed existence of qualifying conditions under subsection (b) (4), respondent contends that petitioner could not have started the manufacture and sale of beer prior to the time it actually did so; that petitioner's shift from sales mainly of draught to mainly of packaged beer as a method of marketing its product was not a change in the character of the business as envisaged by the statute; and, further, that, in supplying consumer demand as it existed during 1936-1939 and within the limits of its production capacity and competition, petitioner's beer business had reached, by the end of the base period, the earning level which it would have reached had it undertaken the change to sale of packaged beer two years before it did so. Respondent also contends that petitioner's average base period excess profits net income from its beer business, computed under the growth formula of section 713 (f), as was done here by respondent, constitutes an adequate standard1950 U.S. Tax Ct. LEXIS 187">*224 of normal earnings and, further, that in any event petitioner's claimed constructive average base period net income in the amount of $ 1,159,196 for its beer business is not based upon what would be a fair and just amount representing normal earnings during the base period years.

We first consider the question of whether the petitioner qualifies under the specifications of subsection (b) (2) of section 722; that is, whether petitioner's average base period net income is an inadequate standard of normal earnings because the brewing industry of which petitioner was a member, and coincidentally the brewing business of petitioner, "was depressed by reason of temporary economic events unusual in the case of such industry."

Assuming for purposes of discussion that the business of the industry and petitioner was depressed in the base period, we shall consider the petitioner's first contention, that the adoption of the Eighteenth Amendment and more particularly the enactment of the Volstead Act in January, 1920, providing for national prohibition of the manufacture and sale of beer, was such an event as came within the purview of 14 T.C. 1034">*1052 the statute. In our opinion it was not. The Eighteenth1950 U.S. Tax Ct. LEXIS 187">*225 Amendment was an act of the people through proper channels resulting in a drastic change in their fundamental national charter of government, namely, their Constitution, which change as of the time of its adoption was to last for an indeterminate period and was not, in our opinion, temporary within the meaning of that word as used in the statute. Likewise, the enactment of the Volstead Act as the enforcement law, carrying the definition of what constituted intoxicating liquor, was an act of the people through their representatives in Congress and the Executive, which, although subject to change as is any legislation, was also to last for an indeterminate period and was therefore in our opinion not temporary within the meaning of the statute. The facts that thirteen years later the definition of intoxicating liquor was modified to permit the manufacture and sale of beer under the Cullen-Harrison Act of April, 1933, and that the Eighteenth Amendment was repealed by ratification of the Twenty-first Amendment in December, 1933, do not have the effect of retroactively or otherwise characterizing national prohibition or more particularly the Volstead Act as a temporary event within the1950 U.S. Tax Ct. LEXIS 187">*226 meaning of section 722 (b) (2). Also, we think that ratification of the Eighteenth Amendment and enactment of its enforcement law, whether or not a temporary event, was strictly a legislative event, and in and of itself did not constitute an economic event within the meaning of section 722 (b) (2), notwithstanding economic consequences resulted therefrom in that the effect of such legislative event was to put an end to the legal beer-brewing industry for a period of years lasting until subsequent legislative events in 1933 terminated national prohibition of beer. The facts show percentages of all wage earners, all wages paid, value of products, value added by manufacturers in the beer and still beverage industries as related to similar items in all manufacturing industries in the United States and California in various years, and also the acreage in the United States in agricultural products used in the brewing industry, barley consumed in that industry, and percentages of barley so consumed to total barley consumption in all industries in various years before and after prohibition. If the petitioner is in reality, as seems to be the case, attempting to show by those facts that1950 U.S. Tax Ct. LEXIS 187">*227 the economic consequences resulting from the legislative event of national prohibition constituted an economic event as contemplated by the statute, our conclusion is that it did not, since the cause (the legislative event), not being temporary, the consequences were likewise not temporary.

With regard to whether the event or consequences were "unusual," within the meaning of that term as used in section 722 (b) (2), it is clear that, while peacetime prohibition on a national scale was unusual in that it was the first time in the history of this country that 14 T.C. 1034">*1053 it was imposed, nevertheless the record discloses that prohibition in and of itself was not such an unusual event that its probable occurrence would not be anticipated in the normal experience of the brewing industry as a whole and in such experience of a member of the industry. That industry had been faced with ever increasing peacetime state prohibition over a period of years (from 2 states in 1904 to 19 states in 1917) prior to the World War I restrictions; it had been faced with wartime restrictions beginning with the limitations on production effective January 1, 1918, and culminating in the War Prohibition Act1950 U.S. Tax Ct. LEXIS 187">*228 effective from July 1, 1919, until conclusion of the war and thereafter until the termination of demobilization, which act prohibited the sale, except for export, of beverages containing one-half of 1 per cent or more of alcohol by volume; and it had been faced in 1919 with the fact that 30 states had statewide prohibition and in 1920 with the fact that 32 states had statewide prohibition.

The facts adduced in this proceeding lead us to the conclusion that neither the legislative event of national prohibition in January, 1920, nor the resulting economic consequences constituted a temporary economic event unusual in the brewing industry or the business of petitioner, within the meaning of section 722 (b) (2).

At the outset of the foregoing discussion and for the purposes thereof, we assumed that the brewing industry and the business of petitioner were depressed in the base period years. However, in our opinion the record establishes that such a "depressed" condition as is contemplated by section 722 (b) (2) did not exist.

Briefly stated, petitioner contends that a depressed condition of the brewing industry is shown by a comparison of the actual base period average per capita of barrel1950 U.S. Tax Ct. LEXIS 187">*229 consumption of 12.7 gallons in the United States and 11.8 gallons in California with an estimate of what that consumption would have been in the base period years absent the existence of the period of national prohibition, namely, 19.2 gallons in the United States and 17.8 gallons in California. Such estimated reconstructed beer consumption during the base period years was testified to by expert witnesses who (first) arrived at the estimated 19.2 gallons per capita in the United States based upon their consideration and analyses of economic and statistical data including, inter alia, figures on population, trends in beer consumption per capita, beer consumption in relation to consumer income, the price of beer, and reference to the average annual per capita beer consumption of 20.2 gallons in the United States during the five years 1909-1913 as a normal period, and (second) arrived at the estimate of 17.8 gallons per capita in California based upon their consideration of somewhat similar data pertaining to California during the base period years in relation to the estimated United States consumption. Both the actual and the estimated reconstructed beer consumption for1950 U.S. Tax Ct. LEXIS 187">*230 California14 T.C. 1034">*1054 during 1936-1939 are approximately 93 per cent of the similar figures for the United States. Petitioner then takes a percentage of the estimated California consumption as representing petitioner's reconstructed gross barrelage sales in California plus its actual out-of-state sales of beer to show that its brewing business, as well as the industry, was depressed.

We have given careful consideration to the voluminous evidence and testimony of record and conclude that it shows that neither the brewing industry nor the brewing business of petitioner was depressed during the base period. In our opinion the five-year period of 1909-1913 selected by petitioner as representing a comparative period of normalcy in consumption of beer is not sound, for it is too remote from and disconnected with the base period years 1936-1939, not only with respect to the element of time, but also with respect to the wholly dissimilar conditions and circumstances obtaining in those two periods. We may not brush aside actual events of the intervening years 1914-1933 as if they never occurred and thus disregard the results thereof. Prior to national prohibition and between 1914 and 19201950 U.S. Tax Ct. LEXIS 187">*231 an ever increasing number of states adopted state prohibition. The advent of national prohibition in 1920 put an end to the brewing industry. The enactment of the Cullen-Harrison Act in April, 1933, and the subsequent repeal of the Eighteenth Amendment in December of that year resuscitated the long dormant brewing industry for the production and sale of beer. Thereafter, the business of the industry and of petitioner was no longer limited by law, but only by the capacity of production and the consumer demand during the post-prohibition period 1933 to 1939. In the latter era the United States average per capita consumption reached a peak of 13.4 gallons in 1937 and leveled off to 12.2 gallons in 1938 and 12.5 gallons in 1939, and the California average per capita consumption reached a peak of 12.4 gallons in 1937 and leveled off to 11.3 gallons in 1938 and 11.4 gallons in 1939, thus clearly establishing a post-prohibition condition of normalcy rather than a depressed condition in both the United States and California, and in the case of both the brewing industry and the petitioner.

In our opinion the record herein fails to establish that the petitioner's average base period net1950 U.S. Tax Ct. LEXIS 187">*232 income is an inadequate standard of normal earnings because of the condition prescribed in section 722 (b) (2).

We next consider the question raised by petitioner's second contention, of whether the petitioner's average base period net income is an inadequate standard of normal earnings because, within the meaning of subsection (b) (4), petitioner "either during or immediately prior to the base period, * * * changed the character of the business" and as a result thereof its average base period net income "does 14 T.C. 1034">*1055 not reflect the normal operation" of the business for the entire base period.

From July 1, 1921, until April 7, 1933, petitioner produced and sold bottled near beer and soda beverages, malt syrup, and baker's yeast, and on the latter date it commenced to engage mainly in the production and sale of fermented malt liquors (beer) in kegs and packaged, which constituted a major difference in petitioner's products and thus a change in the character of its business, Lamar Creamery Co., supra. However, such change in 1933 was not "immediately prior to the base period" within the meaning of subsection (b) (4), see Monarch Cap Screw & Mfg. Co., supra, p. 1231, ³1950 U.S. Tax Ct. LEXIS 187">*233 and accordingly, in our opinion, the petitioner's engaging in the beer business at the time it did so was not such a change as was contemplated by the statute for the purposes of the special relief therein provided.

Petitioner further contends that, in addition to the 1933 change to the beer brewing business and coupled therewith, it also made a change in the character of its business both prior to and during the base period, in that it adopted in 1933 and carried out during the intervening years to 1939 a plan to engage primarily in the sale of packaged (bottled and canned) beer. That plan consisted of an intense continuous advertising program and, due to it and the demand of the trade, petitioner's sales of packaged beer steadily increased from 25 per cent of total sales in 1933 to 80 per cent in 1939. Before results were obtained from the advertising program petitioner was already engaged in the production and sale of1950 U.S. Tax Ct. LEXIS 187">*234 packaged beer in 1933, and through advertising it merely promoted an increase in the volume of its packaged beer business. We conclude that there was no such change as envisaged by subsection (b) (4), supra, for there was no departure from the general character of the petitioner's beer business. Stonhard Co., supra.Furthermore, the record shows that petitioner had the same brewing plant and bottling facilities throughout the period 1933-1939; that petitioner gradually made greater use of its bottling facilities in accordance with consumer demand and competition; and that for each of the base period years the petitioner's percentage of packaged sales to its total sales was less than the similar percentage of sales by all California breweries as indicated by tax-paid withdrawals by those breweries. Accordingly, we further conclude that petitioner's increased sales of packaged beer during the base period years resulted directly from the existing conditions in the California trade as a whole, including consumer demand and competition, and not from any particular change in the character of the business of petitioner. Cf. Harlan Bourbon & Wine Co., supra.1950 U.S. Tax Ct. LEXIS 187">*235 Having decided that there was 14 T.C. 1034">*1056 no change in the character of the business within the meaning of subsection (b) (4), the petitioner's third contention, i. e., as to the so-called two year rule, need not be considered.

In our opinion petitioner has failed to establish that its average base period net income is an inadequate standard of normal earnings because of any of the conditions prescribed in subsection (b) (4).

Inasmuch as petitioner has failed to establish that its average base period net income is an inadequate standard of normal earnings because of any of the factors embraced in subsections (b) (2) and (4), it is not necessary to discuss the voluminous facts and expert opinions as to "what would be a fair and just amount representing normal earnings" of petitioner's beer business "to be used as a constructive average base period net income for the purposes of an excess profits tax," under section 722 (a).

Respondent is sustained in denying petitioner the claimed relief under section 722 in regard to its beer business and in computing petitioner's average base period net income as to that business under the growth formula of section 713 (f).

The petitioner's excess1950 U.S. Tax Ct. LEXIS 187">*236 profits credit carry-over from 1940 to 1941 as allowed by respondent is based, inter alia, upon an average base period net income determined under the growth formula, and there is no proof of error with respect thereto except in so far as the adjustments herein stipulated by the parties may properly affect such carry-over.

Decision will be entered under Rule 50.