22 T.C. 152">*152 This proceeding is based on respondent's disallowance of petitioner's claims for relief under section 722, Internal Revenue Code. The years involved are the fiscal years ended January 31, 1944, 1945, and 1946. The base period years are the fiscal years ended January 31, 1937, 1938, 1939, 1954 U.S. Tax Ct. LEXIS 230">*231 and 1940. The respondent determined deficiencies for each of the years 1944, 1945, and 1946. The total excess profits tax liabilities, the deficiencies determined by respondent, and the refunds claimed by the petitioner are as follows:

Petitioner claims a reconstructive average base period net income of not less than $ 45,960. Its actual average base period net income was $ 6,394.06. Respondent's position is that petitioner is not entitled to relief under section 722.

FINDINGS OF FACT.

1. Petitioner is a corporation organized under the laws of the State of Nebraska. It operates a department store at Grand Island, Nebraska. It filed its returns for the years involved with the collector at Omaha, Nebraska. The returns were made on an accrual basis for a fiscal year ending January 31.

2. In its excess profits tax returns for the taxable years 1944, 1945, and 1946, petitioner computed its excess profits credits under the 22 T.C. 152">*153 invested capital method. Its excess profits net income and excess profits1954 U.S. Tax Ct. LEXIS 230">*232 credits for those years, as so computed, were as follows:

3. Petitioner's base period years are the fiscal years ended January 31, 1937, 1938, 1939, and 1940. Its excess profits net income for those years and average base period net income, were as follows:

4. Petitioner timely filed claims for relief under section 722 and claims for refund for each of the years 1944, 1945, and 1946 based on excess profits credits computed under the income method. Petitioner is entitled to the use of excess profits credits based on income for each of the taxable years. Its claims for relief are based on a constructive average base period net income of $ 55,753.10. Drought and increased capacity during the base period are relied upon as qualifying factors under section 722.

5. Petitioner's store is located at Grand Island, the county seat of Hall1954 U.S. Tax Ct. LEXIS 230">*233 County, Nebraska, and the third largest city in Nebraska. Its trade area covers about 10 counties in southeast Nebraska.

6. Nebraska is essentially an agricultural State. While it has some manufacturing and other industries, its economy is based largely on the production and processing of farm products, the most important of which are cattle, hogs, corn, and wheat.

7. Beginning about 1934 and extending through petitioner's base period, Nebraska and other adjoining areas suffered a severe drought. Average rainfall in Nebraska, over the period 1936 to 1939, inclusive, was less than 70 per cent of normal. Lack of moisture and severe heat at the critical stages of development caused an almost total crop failure of major crops in some of those years.

8. In addition to the drought there was also a serious infestation of grasshoppers in Nebraska during the base period years which added to the short production of most farm crops over large areas of the State. This damage in the State of Nebraska alone was estimated by the United States Department of Agriculture at between 11 and 12 million dollars in each of the years 1936, 1937, and 1938.

22 T.C. 152">*154 9. The adverse effects of the draught1954 U.S. Tax Ct. LEXIS 230">*234 in Nebraska and neighboring States were intensified by the fact that the drought followed a prolonged economic depression, due to low prices for farm commodities and other factors, which began in the early 1930's. These results are reflected in the following statistics relating to "cash receipts from farm marketings" in the State of Nebraska:

1954 U.S. Tax Ct. LEXIS 230">*235 The totals shown in the last column above include other lesser livestock and livestock products such as dairy products, sheep, and poultry, and other lesser crops such as potatoes, beets, oats, and hay, not shown separately in the table, but do not show Government payments to farmers, shown in Finding 14 below.

10. The loss of farm production and farm income affected all types of business throughout the drought stricken area, particularly those which depended largely on farm trade.

11. As a result of the short production of feed crops during the drought period there was a reduction in the quantity and quality of marketable cattle and hogs. Large quantities of feeds were brought in from other States at additional costs to the farmers, and much of the livestock was sold in poor condition at distress prices. Because of these extra costs of production there was a proportionately greater reduction in farm net income and purchasing power than there was in gross income.

12. The farmers of Nebraska, in most instances, exhausted their cash reserves as well as their credit and their spending was reduced to bare necessities. Their houses and farm equipment of all types suffered from lack1954 U.S. Tax Ct. LEXIS 230">*236 of repairs and proper maintenance. Government and State agencies instituted various relief programs. The Farm Security Administration made many loans, and in some instances outright grants, to distressed farm families. The Farm Service Administration assisted in working out minimum cost subsistence recipes and budgets. The Agricultural Extension Service of the University of Nebraska22 T.C. 152">*155 organized instruction courses for farm families in repairing, and in some instances making, their own household necessities and personal clothing. Feed sacks were used to make underclothes for the children and other wearing apparel; old blankets were converted into clothing; and sewing centers were established where overalls, dresses, and other articles, even toys, were made and distributed free to needy families. Altogether, about 4 million garments and as many other articles were made and distributed free to Nebraska families. At the beginning of 1938, over 200,000 persons, approximately 15 per cent of the total population of Nebraska, were on some form of relief.

13. The distress conditions described above prevailed not only among the farm families but also in the urban areas, and particularly1954 U.S. Tax Ct. LEXIS 230">*237 in the small towns which largely depended upon farm income. The following table shows the total income payments and the per capita income payments to individuals in Nebraska and in the United States as a whole over the period 1929 to 1939, inclusive, as published by the United States Department of Commerce:

14. Cash farm income from marketings of crops and livestock and Government payments, including all cash agricultural payments, such as rentals, price supports, conservation, and parities, for the State of Nebraska, over the period 1924 to 1939, inclusive, were as follows:

1954 U.S. Tax Ct. LEXIS 230">*238 22 T.C. 152">*156 15. In relation to the 1924-1929 average, the percentage of land values over the period 1930 to 1939 and of forced sales and related defaults on purchases of farms in the State of Nebraska and the United States as a whole were as follows:

16. The population of Nebraska dropped from approximately 1,378,000 persons in 1930 to approximately 1,316,000 in 1940. About 35 per cent of the 1930 and the 1940 population was urban. Grand Island, where petitioner's store was located, had a population increase from 18,041 in 1930 to 19,130 in 1940.

17. Petitioner's store was founded by two Wolbach brothers in the 1870's. About 1910 it came under the ownership of one of the founders, S. N. Wolbach, and his two sons, E. J. and Emil. The father died about 1921 leaving the sons in ownership of the store. In 1931 E. J. sold all1954 U.S. Tax Ct. LEXIS 230">*239 but 10 per cent of his interest to Emil, who became the active partner. Emil was killed in an airplane accident in March 1933, and his interest in the business was inherited by E. J. Soon thereafter the business was incorporated with E. J. acquiring all of the stock. Samuel G. Heller was employed as manager of the store and was put in complete charge of its operation.

18. About July 1, 1936, E. J. Wolbach contracted to sell the store as a going business to Heller and an associate, Carl Laemmle, who was to put up the necessary capital. The contract provided for the reincorporation of the business under its present name, "S. N. Wolbach Sons, Inc.," and the issuance of all of the common stock to Laemmle and Heller. The contract called for the sale to petitioner of the inventory on hand for $ 75,000, which was 25 per cent less than actual inventory value. Redeemable preferred stock was issued to E. J. Wolbach with certain rights which permitted him to regain control of the business upon default on the purchase contract. Heller, who remained in control of the business, received a salary of $ 12,000 per year.

19. Dissatisfaction with Heller's management of the store developed early1954 U.S. Tax Ct. LEXIS 230">*240 in 1938. Heller was charged with mismanagement of the business as well as certain defalcations, and suit was brought against his 22 T.C. 152">*157 bondsmen. A dividend of $ 10,000 had been declared on the common stock in 1937 but because of the financial condition of the business Laemmle had repaid his share of it to the corporation.

20. Prior to Heller's management, the store had always handled high quality merchandise and had acquired the exclusive agency in its territory for a number of nationally advertised lines. It was known in the community and throughout the State as a "quality store." During his term as manager, Heller began stocking certain lines of second-class merchandise and lost some of the franchises. Unpaid bills were allowed to accumulate and the store's credit was impaired.

21. Early in 1936 a furniture department was installed in space rented in an adjoining building. The floor space occupied by the store was increased in 1937 from 36,105 square feet to 40,419 square feet. It consisted of 28,405 square feet over the period 1922 to 1929, inclusive. The furniture department operated at a loss in 1937, 1938, and 1939.

22. The total sales, gross profits (total sales 1954 U.S. Tax Ct. LEXIS 230">*241 less cost of goods sold), expenses, and net income or loss of the business for the years 1922 to 1940, inclusive, as reported in the partnership and corporation returns, were as follows:

1954 U.S. Tax Ct. LEXIS 230">*242 In the computation of net income, as shown above, no deduction was made for salaries of the partners during the years when the business was operated as a partnership. The partnership returns for those years show the salaries of the two partners as $ 30,000 for each of the years 1922-1928, inclusive (except for 1924 when no salaries are shown); $ 20,000 for each of the years 1929-1931, inclusive; $ 8,541.60 for 1932; and $ 2,975 for the period January 1 to June 30, 1933. However, the so-called salaries were not intended to represent the actual value of the services performed by the partners but rather the withdrawals of the partners in those years. Total officers' salaries for the base period years 1937 to 1940 were, respectively, $ 17,133.23, 22 T.C. 152">*158 $ 14,345.83, $ 13,679.17, and $ 11,625. The gross sales, as shown for the period January 1 to June 30, 1936, included the $ 75,000 which petitioner paid to its predecessor for inventory.

23. Petitioner's trade depended, to a large extent, on farm income. The majority of its customers were either farmers or those depending upon farm trade in their businesses or professions.

24. Because of the drought and to a lesser extent insect1954 U.S. Tax Ct. LEXIS 230">*243 infestation and their effect on farm income and business generally in the State of Nebraska, petitioner's earnings were depressed during the base period years, so that its average base period net income was an inadequate standard of normal earnings.

25. A fair and just amount representing petitioner's normal average earnings for the base period years is $ 24,700.

OPINION.

The petitioner contends that its business was depressed during the base period by the prolonged drought which prevailed over its trade area; that because of such depression its base period earnings are not an adequate measure of its normal earnings; that the drought was of sufficient severity and duration to constitute a "qualifying factor" under the provisions of section 722 (b) (1) or 722 (b) (2), or both; and that its base period earnings should be reconstructed to a normal level by restoring the estimated drought losses to the base period income.

We have found as a fact that during the base period years there was a severe drought over petitioner's entire trade area, and that the drought, and, to a lesser extent, insect infestation ¹ during a portion of the base period, did adversely affect petitioner's base 1954 U.S. Tax Ct. LEXIS 230">*244 period earnings to such an extent that the average of such earnings is an inadequate standard of normal earnings (see Finding 24 above). In our opinion, this Finding is amply supported by the record.

Respondent recognizes that there was such a drought and that it resulted in a substantial curtailment of farm income throughout petitioner's trade area.

In its excess profits tax returns for the taxable years 1944, 1945, and 1946, petitioner computed its excess profits credits by the invested capital method.

Respondent makes the following contentions:

a. That petitioner has failed to meet the burden of proving the extent to which its base period earnings were affected by the circumstances upon which it relies as a qualifying event; and

22 T.C. 152">*159 b. That petitioner has1954 U.S. Tax Ct. LEXIS 230">*245 failed to meet the burden of establishing a constructive average base period net income which would entitle it to a credit in excess of that allowed by use of the invested capital method; or,

c. If we hold that petitioner has met the burdens indicated in a and b above, its constructive average base period net income should be in an amount substantially less than it has asserted.

We agree with respondent only in his contention referred to in paragraph c above.

We have already expressed the view that, upon the record, the drought, and, to a lesser extent, the insect infestation, adversely affected petitioner's base period earnings to such an extent that its average of base period earnings is an inadequate standard of normal earnings within the meaning of section 722 of the Code.

Coming to the more specific issues raised in relation to the burden of proof, we infer from respondent's brief that he takes the position that petitioner must establish a precise figure representing a fair and just amount of normal earnings for its base period, and that failure to establish such an amount with exactitude is equivalent to a failure to meet the burden of proof. We do not accept that viewpoint. 1954 U.S. Tax Ct. LEXIS 230">*246 It is our view, limiting ourselves to the particular problem, that it is sufficient for minimal requirements if petitioner has introduced into the record acceptable proof on the basis of which we are able to determine normal earnings in an amount which is fair and just within the limits of a reasonable range of the exercise of judgment. We are not required to choose between adopting petitioner's precise reconstruction on the one hand, or holding that it has failed to meet the burden of proof on the other. We may, likewise, upon the record, accept or reject a reconstruction offered by respondent, but we are not required to accept or reject in toto. Finally, we may determine a reconstruction, based upon the facts we find in the record, in an amount independent of that urged by either petitioner or respondent. We add that the exercise of judgment, upon the record, and within a reasonable range, in determining constructive average base period net income, is appropriate and necessary to a realistic approach in many cases arising under section 722 of the Code, including the case before us.

In the instant case we are presented with numerous calculations, computations, analyses, and 1954 U.S. Tax Ct. LEXIS 230">*247 charts, with supporting data, offered by the respective parties. We find ourselves in the position of being unable to accept any of them as in themselves determinative of the amount of normal earnings of petitioner for its base period, because in each instance, one or more of the premises on which it is based is here inapplicable. Nevertheless, they have their use in aiding us 22 T.C. 152">*160 to reach the proper perspective, and in checking and weighing our own views.

It is our opinion that there is sufficient credible evidence in the record to enable us to ascertain the minimum extent to which petitioner's earnings were depressed by the events constituting qualifying factors, and to determine normal earnings within a reasonable range. The two are, of course, interrelated.

Both parties agree that of the many suggested approaches to a determination of normal earnings in this case, the soundest technique would be to reconstruct a reasonable sales figure for the base period, and to apply thereto a ratio of profit which would likewise be reasonable under the circumstances.

Agreement ends with the statment of the underlying principle. Petitioner suggests that reconstructed sales be fixed 1954 U.S. Tax Ct. LEXIS 230">*248 at $ 919,201.02, to which should be applied a ratio or 5 per cent in order to determine normal earnings. Respondent suggests that normal average base period sales should be put at $ 667,424 and that preferably the ratio to be applied should be 1.65 per cent, or, in any event, not more than 2 per cent.

In reaching our own conclusion, we accept the approach of reconstruction of sales and the application thereto of an appropriate profit ratio. We have, however, considered the entire record, the proposed findings of fact, and the briefs of the parties. A detailed consideration here of each of the contentions is unnecessary and would unnecessarily protract our opinion. We mention, therefore, only the main factors which we have considered, although our determination has been tempered by a consideration of all that has been presented.

We begin by a consideration of the actual experience of the predecessor partnership. Our findings of fact include actual sales, gross profits, expenses, and net income (or loss) of the business and its predecessors for the years beginning with 1922 and ending with the fiscal year terminating January 31, 1940. No single year or group of years is in itself1954 U.S. Tax Ct. LEXIS 230">*249 typical of normal earnings of the business for the base period, but appropriate adjustments may be made to reflect normal base period conditions. We have selected the group of years from 1924 to 1930, inclusive, as our starting point, because they require the least adjustment for the purpose of relating them to normal base period conditions. We have, according to our own best judgment, adjusted both sales and profit ratios for this purpose. We have also adjusted profit ratios to reflect reasonable salaries of partners to the extent supported by the record. Adjustments have been made giving effect to the elements of dissension and mismanagement during the base period as disclosed by the record. We have given no effect to petitioner's contention that profits be reconstructed for the furniture 22 T.C. 152">*161 department because the evidence offered in support thereof does not persuade us that a proper reconstruction can be made.

After careful consideration, and after making adjustments as above indicated, we have determined reconstructed average sales for the base period in the amount of $ 737,300, and have applied thereto a profit ratio of 3.35 per cent. We have rounded out the result1954 U.S. Tax Ct. LEXIS 230">*250 and have fixed constructive average base period net income in the amount of $ 24,700. We are not required to determine this amount with mathematical exactness ( Danco Co., 17 T.C. 1493) and we do not suggest that we have accomplished precision where precision is impossible.

Reviewed by the Special Division.

Decisions will be entered under Rule 50.