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Ring Constr. Corp.. v. Sec'y of War of the United States

Tax Court of the United States.
May 15, 1947
8 T.C. 1070 (U.S.T.C. 1947)

Opinion

Docket No. 12-R.

1947-05-15

RING CONSTRUCTION CORPORATION, A MARYLAND CORPORATION, PETITIONER, v. SECRETARY OF WAR OF THE UNITED STATES, RESPONDENT.

Josiah E. Brill, Esq., for the petitioner. Robert H. Winn, Esq., for the respondent.


1. Unconstitutionality of the Renegotiation Act of April 28, 1945, held not shown.

2. The amount of excessive profits from a contract for erection of a part of a soldiers' cantonment determined under Renegotiation Act and upon the evidence. Josiah E. Brill, Esq., for the petitioner. Robert H. Winn, Esq., for the respondent.

In this case the petitioner invokes the jurisdiction of this Court under section 403 of the Sixth Supplemental National Defense Appropriation Act of 1942, as amended by the Revenue Act of 1943, and asks for a determination that the Secretary of War and Under Secretary of War of the United States have no right to a return of profits upon contracts between the petitioner and the War Department, determined by the respondent to be excessive in the amount of $1,365,000 (after reduction from $1,405,000 because of effect given to $40,000 Wisconsin State income taxes). The determination complained of was made on December 20, 1943. The petition herein was filed May 22, 1944. The determination is alleged to be erroneous first, because it is in violation of the petitioner's rights under the due process clause of the Fifth Amendment to the Constitution of the United States in this: That it would take petitioner's property without due process of law, in that it would impair the obligation of the valid contract between the parties; and, second, because the net profit received by the petitioner upon the contract is not excessive. The principle issues presented are, therefore, whether the act above designated is constitutional and, if so, whether in fact the petitioner made excessive profits on the contracts involved. A partial stipulation of facts was filed, all of which we adopt by reference, incorporating those parts thereof deemed pertinent in our findings of fact.

FINDINGS OF FACT.

1. The petitioner is a corporation duly organized in 1934 and existing under and by virtue of the laws of the State of Maryland, with its principal office and place of business in the city of Minneapolis, Hennepin County, State of Minnesota, and is authorized to do business in the State of Minnesota, the State of Wisconsin, and elsewhere, and all of said facts were true at the time the work was being done under the contracts involved herein and since that time. All of the stock of the petitioner is owned by Morris J. Ring and the members of his family. His family includes Martin Ring and Harold Ring, his sons, aged in 1942 about 26 and 22 years, respectively. Morris J. Ring is president of the petitioner. A. I. Wiik has since 1930 been vice president. Morris J. Ring has since 1922 been engaged in the business of contracting for the erection of buildings and other structures. Morris J. Ring is not an engineer by profession, and has had no scientific or academic school training in his work. His training was practical, in the field. Individually and in connection with the petitioner, he has contracted and built buildings of the approximate value of 25 to 30 million dollars, including numerous contracts with governmental agencies.

2. About February 28, 1942, the War Department announced invitations to bid on a project involving a part of the construction of Camp McCoy, at Sparta, Wisconsin. On March 3, 1942, petitioner, in order to make a bid, applied for copies of the plans and specifications, depositing a check for $100 to secure their return. They were received about March 10, 1942, and petitioner's organization began work the same day on the preparation of a bid, covering what was known, and will be hereinafter referred to as areas C and E. The petitioner submitted a bid totaling $6,650,280 on the two areas. The bids were opened on March 26, 1942. On area C one other bid was submitted, in addition to that of the petitioner; as to area E, no other bid was submitted. On the same day the petitioner signed a contract known as No. W-1088 Eng. 1638, to construct the buildings and do the work on areas C and E. It was approved by the War Department on April 24, 1942. It provided, in substance, for construction of buildings at Camp McCoy, to begin within 10 days after March 27, 1942, and for completion of certain building within 105 days and of the whole contract in 180 working days. Provision was made for unit prices for certain items, controlling in case of order for additional items or in case of elimination of such items. Provision was made for damages for delay, at $15 per building each calendar day of delay until the work was completed and accepted. Work was to proceed as necessary, including night shifts, Sundays, and holidays. Bidders were required to visit the site and familiarize themselves with the nature and amount of work, accessibility of roads, and other items entering into construction and completion, and failure to do so would not be grounds for additional compensation for completion of the work. Work was to be planned and carried out as directed by the constructing quartermaster. The contractor guaranteed materials, equipment, and workmanship against defects for one year, and assumed full responsibility against all hazards. A performance bond was required and given also a bond providing for payment of labor and material suppliers. The contract could be terminated at any time by the Government in its discretion. Final decision of disputes was to be by the Government. The Government could take over materials, appliances, and plant to complete the work, the contractor to pay the Government any excess cost caused by such necessity. The contract contained no provision protecting the petitioner against loss from unforeseen circumstances or an improvident bid. The construction quartermaster was to interpret the intent and meaning of the drawings and specifications. The petitioner was required to furnish such safeguards, safety devices, and protective equipment as were determined by the Government's representative to be reasonably necessary. The contract required the petitioner to pay overtime rates when labor worked overtime. The contract price included Federal, state, and local taxes imposed prior to date of contract, with provision for adjustment in case of imposition or change after date of contract (except tax on net income or undistributed profits). We shall refer to this contract hereinafter as No. 1638. It involved construction of about 490 buildings.

3. On October 3, 1942, the petitioner and the War Department entered into another contract, known as W-1088 Eng. 1542. The petitioner had submitted a bid of $78,300. The contract is entitled ‘Negotiated Construction Contract,‘ though other bids were submitted by contractors. The contract provided for construction of additional buildings at Camp McCoy. There were two other bids on this contract and petitioner was low bidder by about $10,00 to $15,000. We shall refer to this contract hereinafter as No. 1542.

4. The petitioner received from the Government for the full performance of the two contracts, a total of $6,918,988.51, divided as follows: Contract 1638, $6,838,412.21; and contract 1542, $80,576.30.

5. The actual, allowable, and reasonable job costs on said two jobs incurred by the Ring Construction Corporation, as determined by an investigation made by counsel for petitioner and respondent, with the assistance of competent accounts (exclusive of compensation paid or incurred to M. J. Ring, Martin Ring, M. A. Floyd, and A. I. Wiik; exclusive of Wisconsin income taxes and interest thereon; exclusive of Federal income taxes and interest thereon; and exclusive of profit) is the total sum of $4,936,172.52. This figure does not include, but excludes the following items: The expense to the petitioner of carrying on renegotiation proceedings; the expense of petitioner in furnishing reports in carrying on negotiations with insurance companies, governmental agencies in the field of compensation insurance and the like, carrying on negotiations, and making settlements with material men and subcontractors after the job was completed.

6. Included in the job cost above provided for is the sum of $2,949,706.03 paid by the petitioner to subcontractors for work done by such subcontractors in connection with the performance by petitioner of the Camp McCoy work.

7. The contract sales and job profit of Ring Construction Corporation for the years 1938 to 1941, inclusive, were as follows:

+------------------------------------+ ¦Year ended¦Contract sales¦Job profit¦ +----------+--------------+----------¦ ¦1938 ¦$286,000 ¦$111,000 ¦ +----------+--------------+----------¦ ¦1939 ¦239,000 ¦13,000 ¦ +----------+--------------+----------¦ ¦1940 ¦1,336,000 ¦153,000 ¦ +----------+--------------+----------¦ ¦1941 ¦1,804,000 ¦269,000 ¦ +----------+--------------+----------¦ ¦Total ¦4,665,000 ¦546,000 ¦ +------------------------------------+

8. M. A. Floyd was employed by the petitioner in 1942 as superintendent and project manager under a profit-sharing contract dated June 3, 1941, and he had been working for the petitioner since June 1939 under substantially similar contracts. Such profit-sharing contracts are customary in the building construction industry. The contract of June 3, 1941, provided for 10 per cent of profits on jobs estimated and superintended by him. On a profit-sharing basis he had earned, on employment with the petitioner, as follows: 1939, $18,238.55; 1940, nothing; 1941, $29,322.28. A. I. Wiik had since 1934 worked for petitioner under a similar contract. On a profit- sharing basis, his earnings with the petitioner were: 1936, $2,400; 1937, $3,000; 1938, $13,891.75; 1939, $2,400; 1940, $3,400; 1941, $16,400. The material portions of the contracts between Ring Construction Corporation and Floyd and Wiik, relating to the matter of calculation of profits, are as follows:

* * * Net profits as used herein is understood and agreed to be the difference between the contractors (sic) price and the total cost of labor, materials, subcontracts, insurance and social security taxes and all special taxes that may be imposed by the State, in other words, all licenses, permits and taxes to be paid from this project except the United States Federal Income Tax only.; * * *

Wiik and Floyd participated in estimating the Camp McCoy work and the bids thereon and it was agreed that Wiik should supervise area E, that Floyd should supervise area C, that Wiik should receive 10 per cent of 40 per cent of the profit, and that Floyd should receive 10 per cent of 60 per cent of the profit, both figured on both areas. The amount of compensation which M. A. Floyd and A. I. Wiik are entitled to under their respective contracts, without giving effect to renegotiation of petitioner pursuant to the renegotiation statutes, is as follows: M. A. Floyd, $110,275.32; A. I. Wiik, $102,388.91. Neither Floyd nor Wiik was related by blood or marriage to the Ring Family. They were not stockholders of petitioner and had no relationship to it, except Wiik's vice presidency and their employment contracts. The reasonable value of the services of the two men on the contracts in 1942 was $60,000. In 1942 the reasonable value of the services of Morris J. Ring on the contracts was $35,000.

9. The petitioner during and prior to 1942 paid Morris J. Ring a salary of $35,000 a year.

10. The petitioner's net worth at the time of the bid on the Camp McCoy work was $750,000. It arranged with a bank for a line of credit of $300,000 to help finance the work. Only $100,000 thereof was used, and that was paid back within about 60 days.

11. The petitioner's bid on March 26, 1942, was slightly lower, as to certain unit prices, than unit prices in a bid made two days earlier by another contractor as to buildings at Camp McCoy identical with those erected by the petitioner. Morris J. Ring had attended the bidding, and he made a memorandum of the unit price and gave it to A. I. Wiik. The petitioner's bid on some units was less than those of another contractor at Camp McCoy. Petitioner's unit price, in bid and contract, on barracks was $14,450, while that of another contractor was $14,475. Petitioner's unit price on type A concrete was $25 a cubic yard, while that of the same contractor was $29; and petitioner's price for type E concrete was $26 a cubic yard, the other contractor's price was $30. The barracks represented about half of the job.

12. It was the practice of Government agencies, in letting contracts for work of the character done by the petitioner at Camp McCoy, to estimate the job in advance, through its own engineers, and to compare such estimate with bids in determining to let a contract; and to let the contract if the bid received did not exceed the estimate. The officer in charge of letting the contract of March 26, 1942, stated to Morris J. Ring on that day: ‘Although your bid is about five per cent higher than we estimate the job cost of it, we will recommend it for acceptance.‘

13. The petitioner has a card index with reference to subcontractors and before it made its bid it sent out request, nationally, for bids on subcontracts to regular subcontractors. Ten to 15 cards were sent out on each item. The time available was normal and ample. In accordance with a practice of contractors to get bids from subcontractors, before bidding, the petitioner attempted to get the best bids possible, from sound reputable contractors, and in making its bid it used the lowest figures then received from reputable bidders.

14. There is a practice among some contractors of shopping among subcontractors, after successfully bidding for a construction job, in order to obtain lower subcontract prices than those previously submitted and used in making up the successful bid. Such a contractor is known as a ‘bid jobber‘ or ‘bid shopper,‘ and there is a policy among subcontractors either not to bid with a contractor known to be such a ‘bid jobber‘ or to bid so high that he, the subcontractor, can still come down on his price and get the job. This results in an increase in the price quoted to the ‘bid shopper,‘ but may also result in a decrease in the bid made by the ‘bid shopper,‘ who expects to buy the subcontractor's services or materials for less than the bid received. Subcontractors sometimes favor certain contractors. The petitioner has adopted a method of keeping certain subcontractors friendly, by favoring them, and of asking them to cooperate and not give their lowest bids to anyone else; and such subcontractors always have a chance to bid with the petitioner after it gets a job. The petitioner always gets additional bids after a contract is let to it. That is a normal practice. At the time the petitioner put in its bid on the Camp McCoy job, Morris J. Ring had reason to believe that he could get, after the contract was awarded, better sub-bids than those already received. The petitioner generally received a substantial and adequate number of sub-bids on its bids, the number generally comparing favorably with those received by other contractors. The petitioner's general reputation as to ethical practices, with regard to general practices of contractors, was that it was ethical. Its general reputation among bonding companies was excellent. On the Camp McCoy job, the sub-bids received by petitioner, before submission of its bid, were from none to five on different items. Bids were secured on practically all subcontract items.

15. The same day the petitioner's bid was accepted, it received notice to proceed, and did so. The planning and erection was under the general charge of Morris J. Ring and M. A. Floyd. Other supervisory help included one Urban, A. I. Wiik, Larson, and Morris J. Ring's two sons, Martin and Harold. Martin worked until July 1, 1942, when he went into the United States Army, and Harold worked until some time in October.

16. After the award Morris J. Ring, and in one or two instances, A. I. Wiik, shopped around for bids on subcontracts, and obtained bids at substantially less cost than the original sub-bid. Money was also saved by subdividing some of the subcontracts into two or more units, instead of one as originally bid by a subcontractor. By thus negotiating and haggling, better prices were obtained. This practice is sometimes called chiseling. A saving was made by using asbestos shingles, because of exercise of an option to use them instead of the materials originally specified; also, by getting a lower bid than originally offered. The difference between the actual cost of subcontracted items and the cost originally estimated by the petitioner amounted to $616,254.

17. Sparta, Wisconsin, near which the work was to be done under the petitioner's contract, was a small town, necessitating importation of practically all labor from surrounding and other places. The nearest city of substantial size was 175 miles distant and Chicago was next nearest. War conditions as to labor and material increased the petitioner's difficulties. Unskilled labor, in fact, had to be used instead of skilled labor, with resulting lack of efficiency. Estimating cost of labor was hazardous, and in estimating the bid petitioner, for overtime and inefficiency, added to its original labor estimate based on standard conditions. Estimate for overtime was added because of the short time allowed for the job. Materials were had to obtain. About 19 to 20 million feet of lumber were required, of which the Government was to furnish about 16 million feet. Delivery of lumber could not be guaranteed, and after difficulty in efforts to get lumber, it was obtained through brokers who were paid commissions. Lumber was the principal item that was scarce. The soil where the buildings were erected was largely swampy, with muck and silty sand, causing problems of drainage and use of special techniques.

18. The petitioner, to fulfill its contract, set up an organization that was somewhat more efficient than the average organization of that kind. Duties were assigned to the different men in charge and responsibilities were divided. By subletting some of the labor, an increase in petitioner's organization was avoided. Morris J. Ring, Floyd, and Wiik, and most of the other principal men in the petitioner's organization, worked long hours, about 14 to 16 hours a day, in an office on the site of the job, while many other contractors were handling jobs from home offices. This intensity of effort continued to the completion of the job, passage of the renegotiation law making no difference. About July or August 1942, when the job was about 90 per cent completed, Morris J. Ring was told by the principal engineer on the job for the Government that he never thought Ring would be so far along as he then was, under the conditions, and did not see how it was possible. A sectional engineer for the Government, in charge of the petitioner's job, expressed at that time the idea that he thought the petitioner was doing a very good job under the hampering conditions. The long hours were put in by the petitioner's management because of the risk of delay. Each day of delay after the time set for completion would have resulted in a penalty of about $7,500. There was little loss of time in waiting for labor or material.

19. The contracting business is hazardous, involving speculation and risk. The mortality rate of contracting businesses in certain cycles is very high. The business is by nature one of ‘selling the market short.‘ The year 1942 was in a good cycle, and losses that year were not great. The risk includes the availability of materials, labor, and weather. Cost of labor in erecting lumber might vary $15 a thousand feet, in spite of good judgment eliminate risk as to that portion of the work. The petitioner, in preparing the bid for the Camp McCoy job, took all hazards into consideration, as much as possible, and the job developed no hardship it had not contemplated. Petitioner's bid was made after collaboration and consultation with the men who helped prepare the figures. They had been instructed to figure quantities accurately. Performance bonds had been obtained from the subcontractors. Overtime cost was reduced on the job by efficient organization. Normal weather conditions were considered in making the bid. In fact, there was an unusually small amount of rainfall during the job. Work proceeded nearly every day. This was advantageous to the petitioner.

20. A competent responsible contractor on a contract such as here involved ordinarily should and may reasonably receive, in addition to costs, from 10 to 13 per cent for profits and unknown contingencies. In general, the contractor who makes a profit of 10 per cent above costs is fortunate. The petitioner in making up its bids added 10 per cent to its estimated costs, as profit. This was the rate ordinarily calculated by the petitioner on similar work in the past.

21. About ten days after the job was started the petitioner declined to take over additional construction at Camp McCoy, though Government officers offered 5 per cent above the contract here involved. Morris J. Ring answered that under the circumstances and conditions at Camp McCoy it would be inadvisable to take on any more work. The petitioner did no other work while doing construction at Camp McCoy.

22. The nature of the construction work in petitioner's Camp McCoy job was not complicated. The building was comparatively simple. Water and soil conditions complicated the laying of foundations, making a very difficult situation. The work was completed in the 180 days allowed, but some penalties were assessed for not completing the first priority, which was 105 days.

23. The petitioner for the most part used what was called the sump method of draining the soil in order to excavate and lay foundations. Other contractors on the job used point wells. This point well system was used to a small extent at first by the petitioner. For the petitioner the sump method was more economical. By using balloon type construction, two stories were framed at one time, effecting a saving. A gang method of work increased efficiency and effected economy. Mess hall tables were built on the site with power saws, also causing a saving, as did building trusses on the site. These methods were economical and efficient, but not new to the construction industry in 1942.

24. In 1943 the petitioner incurred and paid the following expenses: $6,000 for legal expenses of renegotiation and in connection with the suit of Floyd v. Ring; $611 for stationery and supplies; $68 for light; $550 for office rent; $26,250 salary of M. J. Ring, at $35,000 per annum; $4,500 to A. I. Wiik salary, at $6,000 per annum; $425 auditing expense; $4,300 office pay roll; $102 postage; $380 telephone and telegraph charges; $700 for travel. The above expenses were paid in connection with the job, cleaning up the office work necessary in connection with the job, and as a result of the renegotiation proceedings, in furtherance of the petitioner's position therein, and were reasonable in amount.

25. Pearl Harbor was attacked on December 7, 1941, and the United States went into war on a world wide scale. In December 1941 the President issued a directive absolving the Army and Navy from complying with statutes requiring the award of contracts for supplies on a competitive basis. Thereafter construction contracts were let both on a basis of competitive bidding and without such bidding, and on a negotiated basis. The Navy Bureau of Yards and Docks let 614 building construction contracts from July 1, 1941, to June 30, 1942, totaling $1,567,294,462. Of these, 350 were after competitive bidding. Up to December 10, 1941, there were, under the jurisdiction of the Construction Division Office of the Quartermaster General of the United States, 2,513 contracts approved or awarded in 1941, of which six were awarded or approved in December to December 10, 1941; 1,811 between January 1 and June 30; and 696 from June 30 to December 1. These were divided (by dates of award or approval) as follows: Advertised lump sum contracts, 1,259 between January 1 and June 30, 435 June 30 to December 1, and 4 to December 10; negotiated lump sum contracts, 311 between January 1 and June 30, 199 June 30 to December 1, and 2 to December 10; cost-plus-fixed-fee, 241 between January 1 and June 30, 62 June 30 to December 1, and none to December 10. In thousands of dollars, the same contracts were: All contracts: from January 1, 1941, to June 30, 1941, 1,148,104; June 30 to December 1, 533,162; to December 10, 1941, 362; advertised lump sum contracts: from January 1 to June 30, 195,475; from June 30 to December 1, 49,651; to December 10, 1941, 341; negotiated lump sum contracts: January 1 to June 30, 61,240; June 30 to December 1, 27,909; to December 10, 21; cost-plus-fixed-fee: January 1 to June 30, 891,389; June 30 to December 1, 456,602; to December 10, none. For the period after December 10, 1941, such data have never been compiled. The volume of Government contracts in general multiplied within a few months after the entry of the United States into war. At the date of the enactment of the Renegotiation Act on April 28, 1942, there were approximately fifty billion dollars of uncompleted contracts on which final payment had not been made. There were great shortages of material of various kinds, also of facilities and manpower. A system of priorities was set up. Accurate estimation of costs was highly difficult. Manufacturers were being urged to manufacture, for war purposes, articles different from those formerly produced. The exigencies of war made production, on a large scale, the primary purpose of industry. Prices became a secondary matter. ‘Letters of intent‘ from the Government authorized expenses of building factories and forming organizations, while details of contracts were being worked out. Price adjustment boards were set up in the War and Navy Departments prior to April 28, 1942, and some voluntary price reduction on voluntary renegotiation of contract prices had taken place. The question of property profits on war contracts was widely recognized and discussed. By March 8, 1946, agreements had been voluntarily reached between the Government and contractors as to excessive profits, totaling $9,390,203,000. Considering each contractor, for each year, as an ‘assignment,‘ 24,551 assignments, or 25.6 per cent were by voluntary refund; by cancellation or clearance as no excessive profits having been found, 70,326 assignments, or 73.2 per cent; and by unilateral determination, 1,193 assignments, or 1.2 per cent. The figure 1,193 does not indicate that many different contractors, since each year is counted separately as an assignment, and a parent corporation and its subsidiaries would each be counted separately.

26. The petitioner at all steps of the proceeding protested at being required to participate in renegotiation proceedings. The unilateral determination was dated December 20, 1943, and mailed to the petitioner on that date.

27. Subject to adjustment for tax credits as stipulated, the profit of petitioner on the contracts involved was excessive to the extent of $1,249,929.94.

OPINION.

DISNEY, Judge:

We should first consider the question of constitutionality of the Renegotiation Act, as propounded by the petitioner. It is, of course, to be presumed constitutional, and the burden is on the petitioner to demonstrate otherwise. Summarized, the reasons advanced for unconstitutionality are (a) that the Fifth Amendment to the Constitution of the United States, providing against taking of property without due process of law, protects the petitioner against impairments of its rights under a contract executed prior to passage of the Renegotiation Act, and that ‘recovery of excessive profits necessarily involves the impairment of the contract‘; (b) that the statutory provisions giving the Tax Court of the United States ‘exclusive jurisidiction‘ to determine, finally and without review, the amount of any excessive profits violate the due process clause; (c) that no war or emergency conditions existed justifying any constitutional exercise of war powers in this matter, any need for speeding up the war effort having no application to contracts already let and any need to minimize profiteering, even assuming it to have any substantial application to contracts already let, having none to preexisting building construction or other contracts resulting from competitive bidding in accordance with statutory requirements, as to which there was no need for retroactivity sufficient to sustain the act, even if such contracts could otherwise be lawfully impaired; (d) Congress did not intend the Renegotiation Act to be applied retroactively; (e) the legislative history shows the act to be no revenue measure, and, even if a taxing act, it would still raise constitutional questions; and that, the contract providing that any increase in Federal taxes (other than income and undistributed profits) would be added to contract price, it would seem to follow that to construe the act retroactively applied as a Federal tax would violate the due process clause.

It should be noted at once that the petitioner concedes constitutionality of the act prospectively applied (eliminating from our consideration in this respect contract No. 1542); also (in line with United States v. Bethlehem Steel Corp., 315 U.S. 289) that it is admitted that the war powers are broad enough to regulate war profiteering, ‘but that does not touch the question of the validity of the statute retroactively impairing the obligation of a private contract between the government of the United States and a citizen. ‘ Again, the petitioner's brief states: ‘Our position is that retroactively applied the statute is invalid against parties contracting with the government * * * .‘ Since the petitioner impliedly, at least, considers that under such cases as Yakus v. United States, 321 U.S. 414, involving the Emergency Price Control Act, and Bowles v. Willingham, 321 U.S. 503, involving that act as to regulation of rents during the war emergency, contracts between citizens can constitutionally be impaired, and since we think it plain from those cases and others along the same line, together with Norman v. B. & O. R. Co., 294 U.S. 240, permitting impairment of the ‘gold clause‘ that the Congressional war powers permit constitutional impairment of contract between citizens, it becomes clear that the only real issue here presented is whether Congress may, under the war powers clause of the constitution, legislate retroactively on contracts between the Government and a citizen, notwithstanding the provisions of the Fifth Amendment giving right to due process in the taking of property. The respondent does not argue that a contractual right is not a property right. The petitioner urges (as against the gold clause cases) that in Perry v. United States, 249 U.S. 330, the sanctity of the gold clause was sustained as between government and citizen. The case, however, involved no application of the war powers of Congress, and offers no assistance here.

In Stein Brothers Manufacturing Co., 7 T.C. 863, we held that the Renegotiation Act is not unconstitutional for any of the reasons there advanced. We think that in general the same reasons are advanced here. The petitioner urges that our conclusion was wrong, and asks reconsideration of the question and that this case be differentiated on the facts. We have, we believe, given the question most careful and thorough reconsideration, as called for by the thorough and thoughtful briefing it has been given by both parties. We are nevertheless not convinced either of error in the Stein opinion or that unconstitutionality has been demonstrated in this. No particular differentiation in pertinent fact of the Stein case is pointed out by the petitioner. The facts on the constitutional question are largely the same as in the Stein case, since the evidence in that case on the point was by agreement incorporated into this, together with cross-examination of the same witnesses. The petitioner stresses strongly other evidence which it is urged shows that at the time of the execution of the principal contract here there was extensive competitive bidding in the building construction industry and letting of contract here upon competitive bidding (one other bid being submitted on area C, though no other was submitted on area E). Since, however, the Stein case states: ‘All of the contracts here in question were obtained after competitive bids were submitted,‘ and since all of the contracts therein except one were executed and approved prior to April 28, 1942, we are unable to discern any differentiation in essential fact in this respect between this and the Stein case. Moreover, the presence of competitive bidding in that case and our conclusion of constitutionality cover the argument of petitioner here that extensive competitive bidding in the building industry rendered unnecessary exercise of any war powers. Whether or not competitive bidding was prevalent in the industry involved in the Stein case, it was present in that case, and we declined to hold the act unconstitutional. Since only one other bid was offered here (as to the contracts prior to April 28, 1942), there could not have been less competitive bidding in the Stein case.

The petitioner here, however, says that the opinion of the Circuit Court in Spaulding v. Douglas Aircraft Co., 154 Fed.(2d) 419, cited in the Stein case and by the respondent here, was dictum so far as retrospective application of the Renegotiation Act is concerned, the Spaulding opinion pointing out that there was no allegation of execution of contracts prior to enactment of the act; and, of course, the force of the argument must be realized. Nevertheless, the resume of the many cases involving constitutional exercise of war powers by Congress and the reasoning of that court on the general subject of war powers were considered sound by us, and are now so considered, as applied to contracts executed prior to April 28, 1942, in the Stein case and here. Considering therefore the extensive discussion of the applicable cases, both in the Stein case and the Spaulding v. Douglas Aircraft case, it seems unnecessary to name or again outline them. They have all been studied, reconsidered, and reanalyzed, together with others not there cited, yet we can not find reason in this case to hold otherwise than we did in the Stein case.

We note, however, since the petitioner here heavily stresses the fact of relation here, not between citizen and citizen but between government and citizen, not only that the same was true in the Douglas Aircraft and Stein cases, but that in various other cases between government and citizen the Supreme Court of the United States has sustained denial of claim of right under the due process clause, because of application of the commerce clause of Constitution. See Scranton v. Wheeler, 179 U.S. 141, a suit between a citizen and one Wheeler, superintendent for the United States of certain property, the United States, however, being the real party in interest; also United States v. Chicago, Milwaukee, St. Paul & Pac. R.R. Co., 312 U.S. 592 (referring to the right to regulate commerce as ‘dominant‘), and Union Bridge Co. v. United States, 204 U.S. 364, holding that though a bridge was lawful when erected, such erection was with knowledge of the ‘paramount authority‘ of Congress over navigation. There appears to have been in those cases as much preexisting property or contractual right as contended for here.

If, as held in those cases, property rights, such as riparian rights as to navigable streams, were subject to the paramount rights of the United States under its constitutional right to regulate commerce, we consider the war powers at least as paramount here to contractual rights. Is the individual's right to due process, in a contract forming an integral part of the effort of this nation to survive a catastrophic war— a contract to build a cantonment for soldiers being processed into that war— to have more sanctity, against the war powers clauses, than have property rights (and certainly riparian rights are such) in time of peace as against the commerce clause? We may not logically answer in the affirmative.

Hamilton v. Kentucky Distilleries Co., 251 U.S. 146, is essentially contrary to the petitioner's argument as to unconstitutional retroactivity of the statute. In that case, too, war powers of Congress were involved; there, too, prior rights were relied on, for Congress was regulating the liquor traffic, as to liquor owned prior to the passage of the act, and it was argued, as here, that ‘the exercise of the war powers is * * * subject to the Fifth Amendment,‘ and that the restrictions on disposition of liquor acquired before the passage of the act exceed even police powers. Justice Brandeis pointed out that the uncompensated restriction upon the disposition of liquors was less severe than those held permissible upon use of property acquired before the enactment of the prohibitory law, in Mugler v. Kansas, 123 U.S. 623, and Kidd v. Pearson, 128 U.S. 1, and held that the Fifth Amendment was not contravened. True it is that, as petitioner points out, The hamilton v. Kentucky Distilleries case was not one of the contract between government and citizen, yet, Hamilton was collector of internal revenue, and the question of regulation was directly between government and citizen; and in Lynch v. United States, 292 U.S. 571 (579), strongly relied on by the petitioner as against impairment of Government contracts, the Court, after recognizing such sanctity, added, almost as if anticipating a case such as this: ‘unless, indeed, the action taken falls within the federal police power or some other paramount power.‘ It then further added that it had not there been suggested ‘that there were supervening conditions which authorized Congress to abrogate these contracts in the exercise of the police or any other power.‘ If any supervening conditions thus tacitly recognized as affecting contracts could be more powerful than those involved in the recent war, we can not vision them. In Stewart & Bro. v. Bowles, 322 U.S. 398 (405), the Court, with reference to diversion, under war powers, of fuel oil in which the plaintiff had been dealing, said:

* * * From the point of view of the factory owner from whom the materials were diverted the action would be harsh. He would be deprived of an expected profit. But in times of war the national interest cannot wait on individual claims to preference. The waging of war and the control of its attendant economic problems are urgent business. * * *

So here, the petitioner is, so far as his contractual rights are affected, ‘deprived of an expected profit.‘ Yet ‘contracts must be understood as made in reference to possible exercise of rightful authority of government, and no obligation of a contract can extend to the defeat of legitimate government authority,‘ Louisville & Nashville R.R. v. Mottley, 219 U.S. 467. The principle appears to us to apply equally to contracts between government and citizen, though the cited case was not such.

The petitioner urges strongly, however, that it was not necessary to make the Renegotiation Act retrospective, however, great the exigencies of war, and that the war effort was not aided by such statutory retrospectivity and, therefore, it was invalid. That argument seems to us one directed against the policy and wisdom, rather than the constitutional power, of Congress; and such wisdom is ‘none of our concern‘; Bowles v. Willingham, supra; Norman v. B. & O.R. Co., supra, and ‘Congress might well have thought so‘— thought that retroactivity was an aid to the war effort— in fact, it obviously did so think. If Congress saw reasons why the sinews of the nation could be strengthened against its enemies by letting the statute look backward as well as forward, it is not ours to dispute it, unless we find arbitrary and capricious action by Congress. This we can not do under the evidence before us. When we see fifty billions in Government contracts outstanding at the date of the act, observe the petitioner agreeing that regulation of war profiteering is within the general war power of Congress, and find that intangible but powerful element, soldier morale, involved in Congressional consideration of war profiteering, how can we say that Congress was arbitrary or capricious in affecting any profiteering found in those fifty billions and saving money which might conceivably be the deciding element in the war?

Nor does the evidence here demonstrate that it was capricious or arbitrary to regard war profiteering as at least possible, though contracts were upon competitive bids, as the petitioner appears to think. The background of competitive bidding was a state of flux, if not confusion, in matters of materials, labor, and prices, of unheard of demands for amounts and kinds of articles desired, of unprecedented stress in the time element, with production, almost at all cost, in effect, the watchword. The fact of only one bid against the petitioner on area C, and none on E (in a contract involving nearing $7,000,000) is to us indication of the state of competition in the industry. In this time of peace we appear too often incapable of remembering or realizing the appalling danger weighing upon the nation early in 1942, when enemies were rampantly successful, our Navy largely wrecked, our Army puny in comparison with those of our enemies, in fact, our potential industrial might almost our only defense. The alternative to success was before our eyes, in the sad state of those nations who had succumbed to our eager enemies. Surely judicial knowledge encompasses these facts. Can we now hold that Congress had no reason, but caprice, in extending an anti-profiteering statute over preexisting contracts, including those where there was some competition? We think not. All competitors, all estimators, including those for the Government, were in the same general situation of uncertainty of supplies, costs, and labor and faced with the same necessity for speed.

Though the petitioner suggests that it was not necessary to make the statute retroactive in order to speed the war effort, we think the speed-up involved in the war effort definitely affected the availability of labor and materials, highly important in industry, including building construction, and therefore, at least within a noncapricious view by Congress, at least a potential cause of profiteering, and that retroactivity to affect profiteering might be considered to assist the war effort.

Likewise, we can not agree that military morale might not reasonably be viewed by Congress as affected by renegotiation of past as well as future contracts. Fifty billion dollars in contracts is no small proportion of the total cost of the war, and Congress may have thought that service men demanded a stoppage of all profiteering, even if possibly already arranged for by contract, and that those who might, and later often did, give their last ounce of blood and life would not calmly view insistence by another on his pound, under contract, and might react accordingly in the will to win a war the nation had to win.

‘The test of validity in respect of due process of law is whether the means adopted are appropriate to the end.‘ Helvering v. City Bank Co., 296 U.S. 85 (90). Nebbia v. People of the State of New York, 291 U.S. 502, cited by the petitioner, says:

* * * And the guaranty of due process, as has often been held, demands only that the law shall not be unreasonable, arbitrary or capricious, and that the means selected shall have a real and substantial relation to the object sought to be attained. It results that a regulation valid for one sort of business, or in given circumstances, may be invalid for another sort, or for the same business under different circumstances, because the reasonableness of each regulation depends upon the relevant facts.

We can not say the Renegotiation Act was not appropriate to the end of winning the war and preventing profiteering, that the law has no real and substantial relation to the object sought to be attained, or that the relevant facts here at hand demonstrate unreason, arbitrariness, or caprice. To us it seems that in the Renegotiation Act, an act such as the Bethlehem Steel case considered necessary, and one particularly providing retroactivity, Congress has done less than that case said it could do, ‘draft business organizations to support the fighting men who risk their lives,‘ just as it could ‘draft men for battle service‘— regardless of the previous contracts of such men. Indeed, the Court denominates such power to draft business as ‘no less‘ than that of drafting men. Realism requires that we see grave possibilities, if not probability, of profiteering in such a condition of industry at war, and at least potential grave effect on the war even from any profiteering already embodied in contracts; moreover, that we see the matter as one of the wisdom, and not of the power of Congress.

The petitioner suggests that Congress did not intend the Renegotiation Act to be retroactive in effect, and cites Congressional discussions which do indeed disclose difference of opinion in that body on the subject. But, since the act as finally passed affirmatively and clearly states that it is to be applicable to contracts ‘heretofore made,‘ we accept it as written. We find no reason, in the face of such language, to conclude that it does not represent the final majority view of Congress. Therefore, we conclude that the petitioner's argument should not be given weight here.

The argument for unconstitutionality because of the power in the Tax Court of the United States to decide finally, and without review by other Court, the amount, if any, of excessive profits was decided in the Stein case; and that as to burden of proof on the petitioner was there also decided against petitioner's contention, and the burden was left on the petitioner in Nathan Cohen, 7 T.C. 1002; and further examination of those questions, in the light of the arguments now advanced, reveals to us no reason for different conclusions. Likewise, the contention, in substance, that the Government is estopped under the facts in this case is not well based. If Congress had the war power to make the law retroactive, we discern nothing in the facts here to sustain estoppel.

We agree with the petitioner's view that the Renegotiation Act is not a revenue measure. Nothing in the act indicates it to be such. This conclusion disposes also of the petitioner's suggestion that the contract provides that any increase in Federal taxes (other than net income and undistributed profits) should be added to the contract price, therefore tax exemption was, in effect, granted. No tax being here involved, no tax exemption could be.

Therefore, after study of all the cases touching the constitutionality question, though not citing or reciting them here because of their compilation in previous cases, we come to the conclusion and hold that the petitioner has not shown the Renegotiation Act, retroactively applied to the contract here involved, to be unconstitutional.

This leaves for consideration the factual problem as to whether the petitioner's profits were excessive, within the purview of the act, and, if so, to what extent. This has entailed the study of voluminous evidence, to detail which is considered neither necessary nor proper. The Renegotiation Act provides, section 403(a)(4)(A), that in determining excessive profits there shall be taken into consideration the following factors:

(i) efficiency of contractor, with particular regard to attainment of quantity and quality production, reduction of costs and economy in the use of materials, facilities, and manpower;

(ii) reasonableness of costs and profits, with particular regard to volume of production, normal pre-war earnings, and comparison of war and peacetime products;

(iii) amount and source of public and private capital employed and net worth;

(iv) extent of risk assumed, including the risk incident to reasonable pricing policies;

(v) nature and extent of contribution to the war effort, including inventive and developmental contribution and cooperation with the Government and other contractors in supplying technical assistance;

(vi) character of business, including complexity of manufacturing technique, character and extent of subcontracting, and rate of turn-over;

(vii) such other factors the consideration of which the public interest and fair and equitable dealing may require, which factors shall be published in the regulations of the Board from time to time as adopted.

We have considered and applied those elements. Most of them may be disposed of briefly. The efficiency of the petitioner in the execution of the contracts, as we view the evidence, was somewhat above average, but not of such character as greatly to affect the conclusion here, either for or against the petitioner. The petitioner furnished its own capital, establishing a credit of $300,000 of which it utilized only $100,000. It received no public assistance as to capital. With regard to the nature and extent of contribution, we discern nothing important. Though there was use of efficient methods such as ‘sump‘ draining of soil, use of gangs, balloon type construction, etc., none of these methods were new contributions to industry, invention, or the war effort. The ‘character of business including complexity of manufacturing technique‘ was simple, involving construction of common barracks in a soldiers' cantonment. In consideration of ‘reasonableness of costs and profits, with particular regard to volume of production, normal pre-war earnings, and comparison of war and peace-time products,‘ the nature of petitioner's production appears much the same in peace and in the war contracts herein involved, with the volume much greater than in peacetime, since we see the petitioner engaged on these contracts to the extent of approximately 7 million dollars, whereas the extent of contracts in which Morris J. Ring, petitioner's president, had been involved through about 20 years, after 1922, was from 25 to 30 million dollars. The petitioner was organized in 1934, and in 1938-1941, inclusive had contracts totaling $4,665,000, with job profits of $546,000.

The reasonableness, or excessive nature, of costs and profits in this matter is argued by the petitioner largely upon the basis of the risk assumed, and, in the absence of any other particular or unusual nature of the contract involved, or inventive or technical contribution to the war effort which would logically appear to weight greatly the question, we think the matter does turn primarily upon the element of risk taken. It is stipulated that the petitioner bid a total $6,728,580 on the two contracts, that it received for performance thereof $6,918,988.51, that the actual allowable and reasonable job costs (exclusive of certain elements hereinafter considered) were $4,936,172.52, including $2,949,706.03 paid subcontractors. This leaves a difference between such job costs and price received, of $1,982,815.99. This amount, less $23,500 for services of Wiik and Floyd, or $1,959,315.99, the respondent contends is the profit involved, and that it is excessive to the extent of $1,405,000 (or $1,365,000 after effect of $40,000 Wisconsin income taxes), the respondent thus contending that the reasonable profit to the petitioner is not greater than $554,315.99 (after the Wisconsin income taxes are considered). The petitioner contends that the profit made is reasonable, and in particular that job costs should include $102,388.91 contracted to be paid Wiik and $110,275.32 under contract with Floyd; also approximately $40,000 spent in 1943 for expenses of litigation, salaries, and other expense connected with the renegotiation and contended to be proper costs thereof. The petitioner contends that it has a net profit to date of trail of $1,564,466.60, but that Federal income taxes of $1,071,155.76 should be deducted, tentatively, in making our determination here, leaving petitioner $493,310.84; and that before Federal taxes and after a fair allowance for reasonable costs estimated at the beginning of the job, its actual profit was $859,998.60, or about 12.43 per cent of the total contract price. Thus it is seen that the respondent is in effect urging allowance of a profit of about 10 per cent of actual costs, while the petitioner seeks profit based on costs as estimated and consideration of income taxes to be paid (in addition to the Wiik-Floyd contracts and the 1943 expenses), and, as already indicated, places particular stress on the risk assumed. After consideration of the evidence, both factual and based on opinion, on this subject, which it would serve no purpose to discuss at length, we can not share the petitioner's view that the risk assumed, or other facts, justified the profit made on the contract at hand here. Undoubtedly, risk is an element to be considered, but, with convincing evidence before us that a contractor ‘feels very happy to make his ten per cent gross job profit * * * on you costs,‘ other evidence that a reasonable profit is 10 per cent, still other testimony indicating that the profit should be from 10 to 13 per cent, added to costs figured, including ordinary hazards, or well known and expected contingencies, our question is largely whether to base profit on actual costs or on costs estimated in bidding, with addition for unknown hazards. We have come to the conclusion, from comparison and analysis of all of the evidence, that actual costs should be the basis. The average or ordinary contractor's profit is a safe guide here, though he sometimes makes more, or less. We are not convinced that the petitioner assumed more risk than the ordinary contractor, and if, as we believe from the evidence, a contractor ordinarily is satisfied on a profit of 10 to 13 per cent above his costs expended, it appears that his risks are intended to be covered in such profit above actual costs. Otherwise a contractor would not reasonably continue in business. In addition, here a great part of the job was subcontracted to subcontractors under bond, and, though we realize bonds can be useless, that is the usual method and protection, and the petitioner seems to us to consider too much the risk element. It is not shown that any subcontractors defaulted on the job with loss to the petitioner. Moreover, we think that the costs computed in bidding were high, not only because of the general uncertainty of war market and labor conditions, but because Morris J. Ring expected to reduce them greatly by shopping among or haggling with subcontractors— a practice, under the evidence, causing subcontractors in general to bid high or refrain. He testified that he actually did so shop or haggle, and the sub-bids were thus reduced about $600,000. These facts, with his testimony that he had certain favored subcontractors, convince us that Ring had reason to believe that there would not be the expense which had been estimated and included in the bid. We do not believe that the petitioner's organization or president actually erred so much in placing the estimates so high. The petitioner always gets additional bids after a contract is let. We think all these facts bear much on what profit made here should be regarded as excessive. Without further discussion, and evaluating as best we can the varied evidence, and giving all weight deemed appropriate to risk, we hold that, subject to details hereinafter discussed, the petitioner's reasonable profit was $600,000 or a little less than 12 per cent of the actual costs of the jobs, amounting to $5,069,058.57.

In the compilation of such costs, question arises first as to the amount to be deducted as compensation for Floyd and Wiik. The respondent adduced evidence that their services were worth $1,000 a month each, and is willing to deduct $23,500; while the petitioner contends that under their contracts they were entitled to a total of $212,664.23 and that amount should be deducted. Section 403(d) of the Renegotiation Act provides that compensation to employees shall not be deducted in more than a reasonable amount, while section 403(c)(1)(3) of the act, as amended, provides that the deductions allowed by chapter 1 of the Internal Revenue Code shall be recognized. Regulations 111, sec. 29.23(a)-6(2), is to the effect that in general, if contingent compensation is paid, pursuant to previous free bargain, it should be allowed, though it may prove greater than the amount which would ordinarily be paid. We think section 403(c)(1)(3) and the principle of the regulation apply here. Floyd had worked for petitioner under such contracts since 1939; Wiik, since 1934. In 1940 Floyd earned nothing; Wiik, in 1936 only $2,400, and in 1937, $3,000. The contracts we consider to indicate reasonable deductions. We think also that the amounts should be based on profits after renegotiation. The contracts provided, in short, for 10 per cent of net profits, defined as difference between ‘Contractor's price‘ and costs. We hold that, considering the contingent contracts, the employees' compensation should be based upon the amount received by the petitioner after renegotiation. This is in accord with the decision in Floyd v. Ring Construction Co., 66 Fed.Supp. 436, where Floyd sued petitioner, asking for compensation based upon net profits prior to renegotiation. In other words, we hold that deduction for compensation for the two employees, together, is $60,000, 10 per cent of $600,000 remaining to petitioner after renegotiation.

The respondent says there is no evidence of the reasonable compensation to Morris J. Ring and his two sons, therefore no consideration should be given to deductions in that regard. As to the sons, we agree. Nothing whatever of record permits us to evaluate their services. As to Morris J. Ring, we do not so agree. Though there was no direct evidence of his work and his very long hours, and his salary had been $35,000. We approve deduction, as to him, of $35,000, considering the overtime and respondent's assumption, as to Wiik and Floyd, that nine months were spent on the job.

The petitioner urges deduction, as costs of the job, of approximately $43,886 spent in 1943 having connection with the renegotiation, the amount and reasonableness being stipulated. The respondent contends that the $43,886 is mere corporate expense, but not costs of the job entering into determination of profits. We think that view is properly sustained only in part. The item of legal expense in contesting the renegotiation and legal expense in the case of Floyd v. Ring, amounting to $6,000, we consider no proper deduction. We are to determine the excess profit in ‘profits derived from contracts with the Departments and subcontracts,‘ which under the statute means ‘the excess of the amount received or accrued under such contracts and subcontracts over the costs paid or incurred with respect thereto.‘ We think the above $6,000 may not be considered with respect to the contracts. Even if that portion thereof expended upon the case of Floyd v. Ring be considered proper job cost, we have in the record no way to allocate it, having only the lump figure $6,000 for the two items of legal expense in contesting renegotiation and in Floyd v. Ring. The other items, totaling $37,886, do, in our opinion, qualify as with respect to the contracts; for it was agreed at trial that the items were expended in ‘cleaning up the office work necessary in connection with this job even though it had been completed.‘ Though the language was general, we think it may properly be applied only to the $37,886. The $6,000 is denied deduction. For Floyd and Wiik, Ring, and the later expense we therefore add a total of $132,886 to the $4,936,172.52 stipulated expenses, arriving at total expense of $5,069,058.57, which, subtracted from receipts of $6,918,988.51, leaves $1,849,929.94 profit.

The parties have agreed that our conclusions herein are subject to adjustment because of the amount of tax credits when definitely ascertained, and that a second order will then issue after submission of the necessary facts as to such taxes. Subject thereto, we determine that the profit of the petitioner on the contracts here involved was excessive to the extent of $1,249,929.94, within the intendment of the Renegotiation Act.

Reviewed by the Court.


Summaries of

Ring Constr. Corp.. v. Sec'y of War of the United States

Tax Court of the United States.
May 15, 1947
8 T.C. 1070 (U.S.T.C. 1947)
Case details for

Ring Constr. Corp.. v. Sec'y of War of the United States

Case Details

Full title:RING CONSTRUCTION CORPORATION, A MARYLAND CORPORATION, PETITIONER, v…

Court:Tax Court of the United States.

Date published: May 15, 1947

Citations

8 T.C. 1070 (U.S.T.C. 1947)

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