MEMORANDUM FINDINGS OF FACT AND OPINION

SCOTT, Judge: Respondent determined deficiencies in the Federal income tax of GCO, Inc. (formerly Media Graphics, Inc.1977 Tax Ct. Memo LEXIS 435">*436 ) for the taxable years ending August 31, 1968, and August 30, 1969, of $23,937.69 and $43,211.89, respectively.

Certain concessions have been made by petitioner, and as a result the only issue remaining for our consideration is whether petitioner was entitled to deduct certain net operating losses and investment credits carried over to and incurred in the taxable years ending on August 31, 1968, and August 30, 1969, which credits and losses were disallowed by respondent pursuant to section 269, I.R.C. 1954. ¹

FINDINGS OF FACT

Some of the facts have been stipulated and are found accordingly.

Stange Company is a corporation whose principal place of business at the time of filing the petition in this case was Chicago, Illinois. It is the successor in interest of the corporation which is the subject of the controversy here, GCO, Inc., formerly Media Graphics, Inc. (MGI). MGI filed Federal income tax returns for its taxable years ending August 31, 1968, and August 30, 1969, with the District Director, Internal Revenue Service in Dallas, 1977 Tax Ct. Memo LEXIS 435">*437 Texas. ²

The controversy here principally involves transactions relating to two corporations, Media Graphics, Inc. (MGI) and April Corporation (April). The following table shows the various names of Media Graphics, Inc. and the periods during which these names were used. For simplicity, regardless1977 Tax Ct. Memo LEXIS 435">*438 of the time frame involved, this corporation will be referred to hereafter as MGI.

MGI was incorporated under the laws of Texas on August 28, 1963. Its business was commercial photography, especially photography used in the production of sales catalogues for retail merchandisers. Initially, its stock was owned in equal shares by Paul Young and Charles Brice. However, in December of 1965 G.F. DeCoursin, Mack Duce, and Norris Adams each purchased substantial amounts of MGI stock, and by December of 1967 they had acquired 51 percent of the stock.

By December of 1965, MGI had accumulated a substantial earnings deficit. It was having difficulty meeting its current obligations to employees and suppliers and had incurred substantial debts. Messrs. DeCoursin, Duce and Adams caused MGI to improve its management and to hire a consultant, Maurice Ash, who prepared a report dated August 25, 1967, recommending1977 Tax Ct. Memo LEXIS 435">*439 various management reforms. This report noted four alternative courses of action, bankruptcy, liquidation, sale of the business, and internal reorganization, and recommended the last. Mr. Ash felt that the business showed a good opportunity for profit if it were properly managed.

On April 13, 1966, Deharduc, Inc., a Texas corporation, was organized. Its name was changed on April 26, 1966, to April Corporation. Until the acquisition of MGI by April in May of 1968, April had outstanding 10,000 shares, owned equally by G.F. DeCoursin and Mack Duce.

April was formed to acquire the assets of a bankrupt corporation, Jem Foods, which had been in the business of blending doughnut and pancake mixes and other dried products principally for distribution in Texas. One of its customers was Kentucky Fried Chicken (KFC) for whom it blended fried chicken batter. Shortly after the acquisition of Jem's assets, April discontinued its unprofitable lines of business and eventually limited its activities solely to blending KFC's seasoned flour for national distribution. In developing this business with KFC, April acquired warehouses and developed packaging techniques and a nationwide distribution1977 Tax Ct. Memo LEXIS 435">*440 system. It continued operations with KFC as its only customer until May of 1968, the date of the acquisition here in issue.

April's working arrangement with KFC consisted only of a short-term commitment for April's product. KFC periodically ordered varying quantities of mixed flour. This flour was then produced and shipped to April's warehouses.From there it was distributed on a daily basis on instructions from KFC. There was usually no more than a 30-day supply kept in the warehouses.

After its organization, April's management was concerned continuously about its relationship with KFC, its sole customer. KFC was engaged in rapid expansion, and the personnel with whom April's employees dealt were often changing. There were occasional complaints from KFC's franchisees about product quality and the use of April's pre-mixed flour, rather than using flour mixed themselves. April's management was also concerned with the financial security of KFC. Other franchise fried chicken restaurant chains had bankrupted, and some of KFC's diversification activities were regarded as questionable.

KFC frequently studied the feasibility of blending its flour itself. Furthermore, KFC often1977 Tax Ct. Memo LEXIS 435">*441 indicated a desire to acquire April's flour blending business and at times entered negotiations toward this end from 1967 to 1970. KFC's interest was limited to the flour blending division, however, and did not extend to the other activities in which April's subsidiaries engaged after May of 1968.

In early April of 1968, the management of April and MGI evidenced an interest in reorganizing and consolidating the businesses of the two corporations. Norris Adams, secretary-treasurer of both April and MGI, met with Dan Morrison and Harvey Brown, accountants from Arthur Andersen & Co., on April 4, 1968, to discuss a proposed merger between the two entities. The accountants suggested that to preserve MGI's net operating loss carryovers of about $90,000 April should merge into MGI with April's shareholders exchanging their stock for MGI common stock. Mr. Adams later met separately with the accountants and with Cecil Magee, an attorney, on April 18, 1968. With Messrs. Morrison and Brown, he discussed accounting and auditing aspects of various forms of reorganization. The conferees designed a reverse stock split to remedy certain of these problems. With the attorney, Mr. Adams discussed1977 Tax Ct. Memo LEXIS 435">*442 other problems and methods of reorganization.

On April 19, 1968, the accountants, the attorney, and Messrs. Adams, DeCoursin and Duce met to discuss the results of Mr. Adams' meetings. A tentative plan of reorganization and a schedule of action were prepared. The form of reorganization suggested by the accountants was the creation of a holding company (April) owning all the stock of an operating company (MGI) which would operate the businesses formerly owned by April and MGI separately. This configuration would be achieved by an exchange by MGI shareholders of MGI stock for April stock. April would then transfer its assets and liabilities to MGI, either as a capital contribution or in exchange for additional MGI stock. On April 22, 1968, the attorney and the accountants discussed the conversion ratio appropriate for the exchange of MGI stock for April stock.They decided that MGI would first have a 1-for-10 reverse stock split, then April would exchange one share of its stock for four of MGI. April then had 10,000 shares outstanding, and 2,000 more were to be issued in the exchange.

In connection with the reorganization and because of MGI's poor financial condition, Mr. DeCoursin1977 Tax Ct. Memo LEXIS 435">*443 obtained a commitment for additional investment from H.N. Carr, and MGI stockholder, on April 22, 1968. He also negotiated with representatives of an MGI creditor, American Graphics Corporation, for a settlement of all its claims against MGI totaling $55,000 for $18,500 payable within 30 days of the agreement. The $18,500 was paid by check on May 6, 1968.

In a notice dated April 30, 1968, the directors and shareholders of MGI were informed of meetings to be held consecutively on May 13, 1968. Enclosed with each notice was a form for subscription for additional MGI stock and a memorandum describing the proposed reorganization, including certain preliminary steps. ³ On that same date, Mr. Morrison mailed to Mr. DeCoursin a memorandum describing the capital structure of April and MGI, reasons for the reorganization ⁴ and steps to be taken.

1977 Tax Ct. Memo LEXIS 435">*444 On May 13, 1968, the directors and shareholders of both April ⁵ and MGI⁶ met and adopted the proposed reorganization plan. ⁷ Pursuant to this plan:

(1) Any MGI shareholders were allowed to subscribe for additional MGI stock not exceeding two shares for each share already owned at a price of $1 per share. Under this authority the following persons subscribed and paid for additional stock:

(2) Paul Young, an MGI stockholder who did not want to participate in the plan, received $3,900 on May 31, 1968, in redemption of his 3,900 shares of MGI stock.

(3) The capital structure of MGI was changed. The authorized capital stock was reduced from 250,0001977 Tax Ct. Memo LEXIS 435">*445 to 25,000 shares, and all outstanding shares were exchanged for new shares in the ratio of one new share for ten old shares. The number of shares committed to both options and subscriptions were concomitantly reduced on the same ratio and the purchase price increased by a factor of ten. MGI also reduced its stated capital proportionately and eliminated shareholders' preemptive rights.

(4) April's capital structure was changed from one class of common stock to two classes having the same rights and characteristics except for voting rights. The Class A stock, to be received by prior April stockholders, had one vote per share. The Class B stock, to be received by former MGI stockholders, had 30 votes per share. This amendment of April's Articles of Incorporation was filed with the Secretary of State of Texas on May 6, 1968, and was approved by the directors and shareholders on May 13, 1968.

(5) The shareholders of MGI exchanged their stock with April for April Class B stock; 4 MGI shares were exchanged for each April share received. ⁸ Initial exchanges of stock certificates were made on May 24, 1968, by the following persons in the stated amounts:

After these exchanges were completed, April had outstanding 10,000 Class A shares, which had one vote per share, and 2,592.5 Class B shares, which had 30 votes per share.

(6) April transferred its assets and liabilities to MGI.The plan as proposed by the accountants and as adopted by both April and MGI contemplated that April would make this transfer simultaneously with the stock exchange. ⁹ Assets with a book value of $155,909.11 were transferred onto the books of MGI under date of1977 Tax Ct. Memo LEXIS 435">*447 May 18, 1968, although the entry itself was made some time in June of 1968. This date was selected by the board of directors as the effective date of the reorganization because it ended a four-week fiscal period of MGI. The book entry was intended to conform to the reorganization plan as approved by the directors. On May 21, 1968, April delivered a check for $45,000 to MGI, and this amount was entered on MGI's books. The amounts of these two entries exceeded the total book value of April's assets on May 18, 1968, by $18,508.82.

1977 Tax Ct. Memo LEXIS 435">*448 After the reorganization of April and MGI, administrative services of both corporations were consolidated and the administrative staff of twelve was cut by three or four persons.

On June 6, 1968, Mr. DeCoursin and Cecil Magee met with Dan Morrison of Arthur Andersen & Co. in connection with a possible exchange of the flour division with KFC for KFC stock. They discussed alternative methods of exchange. Two of the four alternatives, including the one they considered to be the best, expressly contemplated utilization of MGI's net operating loss to offset part of any gain recognized in the transaction.

On December 11, 1969, MGI was again considering an exchange of the flour division for KFC stock. At a special meeting, the board of directors approved Mr. DeCoursin's negotiations to improve KFC's offer and instructed management to "investigate the possibility of disposing of the studio division and seek an offer therefor."

In 1969, April formed a new subsidiary to acquire the assets of a company that manufactured refrigeration equipment for trucks. The new subsidiary was operated under the name of Temp Con Corporation. In 1970, April formed another subsidiary, Texas April, 1977 Tax Ct. Memo LEXIS 435">*449 to operate in the chemical cleaning business. Both subsidiaries were still operating at the time of the trial in this case. ¹⁰ The April management investigated several other diverse businesses as possibilities for acquisition during this period.

April Corporation had the following earnings history during the 3 years in which it was an operating company.

Media Graphics, Inc. reported the following earnings during the years prior to its consolidation with1977 Tax Ct. Memo LEXIS 435">*450 April:

MGI experienced a taxable loss for the period from September 1, 1967, to May 18, 1968, of $16,150. On May 18, 1968, the assets and liabilities of April were transferred from April to MGI on their books, and thereafter accounting for the operations previously owned by April was made as a division of MGI. For simplicity, this division will hereafter be referred to as the flour division and MGI's prior operations will be referred to as the studio1977 Tax Ct. Memo LEXIS 435">*451 division.

MGI as a whole was continuously profitable after the reorganization. However, the studio division, the operations of which produced the losses here in issue, continued after the consolidation to produce losses in its normal operations for the remainder of MGI's fiscal year ending August 31, 1968, and for its fiscal year ending August 30, 1969. These losses totaled $29,121 and $20,559.35, respectively, before Federal income taxes.After this point, however, the studio division began profitable operations. It produced net income for the remainder of the calendar year 1969 and throughout the calendar years 1970, 1971, 1972 and 1973. ¹¹ In 1974 its operations were split into two divisions, and their combined operations produced a net loss before taxes of $87,458.92. But during the first 10 months of 1975 the operations had net income before taxes of $5,647. The studio division has also grown substantially in sales volume from a yearly rate of about $300,000 at the time of the reorganization to over $1,000,000 in 1975, considering both its eastern and western operations.

1977 Tax Ct. Memo LEXIS 435">*452 On its Federal income tax return for its fiscal year ending August 31, 1968, MGI reported a net operating loss carryover of $85,104.25 and deducted $4,646.18 of this net operating loss to offset taxable income in this amount reported before net operating loss deduction and experienced losses from its studio division operations reducing taxable income by $16,150, attributable to the period from September 1, 1967, to May 18, 1968, and by $29,121, attributable to the period from May 19, 1968, to August 31, 1968. It reported an unused investment credit carryover from prior years of $5,252.41 and a current tentative credit of $673.90.

On its Federal income tax return for its fiscal year ending August 31, 1969, MGI deducted from reported income of $274,985.62 prior to net operating loss deduction a net operating loss carried over from prior years of $68,985.68. It also reported and applied an investment credit carryover from prior years of $5,926.31 and a current investment credit of $590.61.

Respondent in his notice of deficiency disallowed the above net operating loss deductions and increased taxable income by the amount of the studio division losses during both portions of the1977 Tax Ct. Memo LEXIS 435">*453 fiscal year ending August 31, 1968. Respondent allowed an investment credit for the year ending August 31, 1968, of $432.08 calculated only on property acquired by the flour division "after the transfer of April's business to" MGI. An investment credit was also allowed for the year ending August 30, 1969, of $590.61, the credit calculated on property acquired during that year only. The reported investment credit carryover of $5,926.31 was disallowed. Respondent explained these adjustments as follows:

It is determined that the principal purpose for April Corporation's acquisition of control of GCO, Inc. (formerly Media Graphics, Inc.) and the transfer of its business to GCO, Inc., on May 18, 1968, was to gain the benefit of Media Graphics' net operating losses and investment credit carryovers, as well as to obtain the use of the current operating loss of $45,005.30 being incurred by Media Graphics, Inc., at the time of the transfer, thus avoiding payment of federal income taxes.

OPINION

This controversy has its origin in the transactions of two corporations, April and MGI. MGI had experienced net operating losses and unused investment credits which were carried over to the1977 Tax Ct. Memo LEXIS 435">*454 years in issue and was anticipating current net operating losses. April was a profitable corporation and contemplated future earnings.Prior to May of 1968, April was controlled, within the definition of section 269, by Mr. DeCoursin and Mr. Duce; they also owned a minority interest in MGI. On May 14, 1968, Mr. DeCoursin purchased additional stock giving him and Mr. Duce control of MGI within the definition of section 269. Thereafter, April acquired all the stock of MGI from Mr. DeCoursin, Mr. Duce and others in exchange for April stock, and April's assets were transferred to MGI.

Respondent has disallowed to MGI certain deductions and credits pursuant to section 269(a) based on the acquisition of MGI stock by April and the acquisition of April's assets by MGI. Section 269(a) provides:

SEC. 269. ACQUISITIONS MADE TO EVADE OR AVOID INCOME TAX.

(a) In General.--If-

(1) any person or persons acquire, or acquired on or after October 8, 1940, directly or indirectly, control of a corporation, or

(2) any corporation acquires, or acquired on or after October 8, 1940, directly or indirectly, 1977 Tax Ct. Memo LEXIS 435">*455 property of another corporation, not controlled, directly or indirectly, immediately before such acquisition, by such acquiring corporation or its stockholders, the basis of which property, in the hands of the acquiring corporation, is determined by reference to the basis in the hands of the transferor corporation,

and the principal purpose for which such acquisition was made is evasion or avoidance of Federal income tax by securing the benefit of a deduction, credit, or other allowance which such person or corporation would not otherwise enjoy, then the Secretary or his delegate may disallow such deduction, credit or other allowance. For purposes of paragraphs (1) and (2), control means the ownership of stock possessing at least 50 percent of the total combined voting power of all classes of stock entitled to vote or at least 50 percent of the total value of shares of all classes of stock of the corporation.

Petitioner asserts that the acquisition of all MGI stock by April was not an acquisition described in section 269(a)(1) and that the receipt of April's assets by MGI was not an acquisition described in section 269(a)(2). These acquisitions are further argued by petitioner1977 Tax Ct. Memo LEXIS 435">*456 to have been made for a purpose other than that prohibited by section 269(a). Respondent disputes each of these contentions.

For the reasons discussed below, we find that the acquisitions of MGI stock by April and of April's assets by MGI did not have as their principal purpose the evasion or avoidance of Federal income tax, and we therefore hold for petitioner. In so holding, we do not reach the alternative arguments of petitioner that neither of these acquisitions meets the requirements of section 269(a)(1) or (2).

In our view the evidence is clear that the acquisition by April of control of MGI and the acquisition by MGI of April's assets were steps contemplated and taken as integral parts of a single plan of action adopted by the common owners of the two corporations. The minutes of the meetings of MGI and April shareholders and directors held on May 13, 1968, and the related evidence show this to be the case. Thus, while either acquisition might arguably satisfy the threshold requirements of section 269(a)(1) and (2), we may look to the purposes of the overall plan to determine the principal purpose for both acquisitions. If that purpose is not to evade or avoid Federal1977 Tax Ct. Memo LEXIS 435">*457 income tax, then section 269 does not authorize respondent's disallowance of deductions and credits in this case.

For tax evasion or avoidance to be the principal purpose for an acquisition under section 269, it must be the purpose that "outranks, or exceeds in importance, any other one purpose." S. Rept. No. 627, 78th Cong., 1st Sess. (1943), 1944 C.B. 973">1944 C.B. 973. See also D'Arcy-MacManus & Masius, Inc.,63 T.C. 440">63 T.C. 440, 63 T.C. 440">449 (1975). The determination of the purposes of the acquisitions here in issue must be made by an examination of all events surrounding the transactions and all facts shown by the record. See J. T. Slocomb Co.,38 T.C. 752">38 T.C. 752, 38 T.C. 752">764 (1962), affd. 334 F.2d 269">334 F.2d 269 (2d Cir. 1964).

Petitioner has asserted several purposes which it claims have motivated the acquisitions here. These asserted purposes predictably do not include tax avoidance. They include:

(1) Supplying capital to MGI;

(2) providing economy in administration of the two business entities;

(3) providing diversity of investment; and

(4) creating a vehicle1977 Tax Ct. Memo LEXIS 435">*458 for future business acquisitions and diversification.

First, petitioner contends that MGI's need for capital required the combination of April and MGI assets in one corporate vehicle. The record shows that MGI was having difficulty obtaining cash to pay employees and suppliers. It had borrowed heavily, and its credit was poor. Furthermore, it needed additional funds to improve its physicial plant. Petitioner's witnesses testified, however, that although the corporation had serious financial troubles its economic potential and prospects were good. Petitioner contends that the reorganization was designed to enable MGI to develop its potential by allowing it free access to cash from April's operations. ¹²

Our examination convinces us that MGI did1977 Tax Ct. Memo LEXIS 435">*459 in fact have a significant need for additional funds. Respondent, however, argues that this need could have been satisfied by intercorporate loans. While loans could have supplied cash for some period, the attendant obligation to repay reduces the desirability of this remedy. Certainly, choice of an arrangement providing a permanent infusion of capital to MGI is within the scope of sound business judgment. We find that petitioner's asserted purpose was a legitimate and significant purpose for the acquisitions. Our conclusion is reinforced by the undisputed fact that after the reorganization the MGI studio division eventually became a profitable operation, contributing significantly to the financial strength of the April group.

Petitioner also contends that economy was gained by consolidation of the administrative functions of the two corporations. The record shows that the bookkeeping and payroll functions were consolidated and that three or four employees were eliminated from a combined staff of twelve as a result of the reorganization. Respondent argues that this economy could have been approximated by intercorporate arrangements for sharing of employees and office space. 1977 Tax Ct. Memo LEXIS 435">*460 While such an arrangement might lead to some economy, we are convinced that in this case the degree of savings was significantly greater in the wholly consolidated operation. We also find that petitioner intended to achieve these savings as one result of the reorganization.

As a third business purpose for the acquisitions, petitioner contends that the owners of April sought to diversify their investment. It notes that the continued success of April was dependent upon maintaining its KFC business and upon KFC's own financial health. Diversification is argued to have provided more security for April stockholders and a corporation more attractive to investors.

We do not doubt that the owners of April felt insecure in their total dependence upon KFC.However, we can discern no improvement in their condition after the reorganization. April's owners had been substantial stockholders in MGI since December of 1965 and at the time of the acquisitions here they controlled MGI. In this position their investment was as diversified as it could be after the acquisitions.The reorganization did not alter the risk April assumed in its relationship with KFC, nor did it provide any alternative1977 Tax Ct. Memo LEXIS 435">*461 use for April's assets if the KFC business were lost.

Diversification might have made April more attractive to investors, but petitioner has presented no convincing evidence that this was the case. For these reasons, we conclude that petitioner has failed to show that diversification of investment was a significant purpose of the questioned acquisitions.

Finally, petitioner argues that a major purpose of the acquisitions was to provide a corporate structure adaptable to future corporate acquisitions. The record shows that the original owners and managers of April planned, even before the formation of April, to acquire a number of businesses within a corporate structure and eventually to make a public offering of stock. From 1965 to 1970, they did in fact make four such acquisitions, beginning with April and MGI. Petitioner's witnesses testified that the reorganization of April and MGI into holding and operating companies, respectively, was intended to, and in fact did, facilitate the later acquisitions.

We find that this asserted purpose was a legitimate and significant purpose for the acquisitions in issue. The testimony of petitioner's witnesses in this regard is buttressed1977 Tax Ct. Memo LEXIS 435">*462 by the subsequent acquisitions that occurred and by consistent statements in contemporary documents. Respondent argues that combination of both business operations in one corporation unduly subjected the assets of one to the business risks of the other and that petitioner's contention cannot be believed. However, we consider the assumption of this risk by the April and MGI owners to be easily justified based on their assessment of the alternatives and their business judgment. We do not agree that use of this corporate configuration was inconsistent with the stated objectives.

Though petitioner argues otherwise, we also find that one other purpose of the acquisitions in the instant case was to obtain the Federal income tax benefit resulting from the use of MGI's net operating loss carryover and investment credit carryover to reduce earnings of the flour division. It is apparent that these carryovers would have been of no benefit had income-producing assets not been aligned in some way with the loss-producing corporation. In initial discussions with their accountants, the April and MGI managers were informed of methods of reorganization that would preserve the carryovers.Both1977 Tax Ct. Memo LEXIS 435">*463 Mr. DeCoursin and Mr. Adams testified that they were aware of the tax benefits of the acquisitions, and each had some idea of the level of tax savings. These facts alone do not establish tax avoidance as the principal purpose of the acquisitions, however. It is well established that the consideration of tax consequences is to be expected of any prudent businessman and that such consideration does not mandatorily require application of section 269. 63 T.C. 440">D'Arcy-MacManus & Masius, Inc.,supra at 451; Berland's Inc. of South Bend,16 T.C. 182">16 T.C. 182, 16 T.C. 182">188 (1951). However, the magnitude of the recognized tax saving does have a bearing on its importance. In this case, the evidence shows that the tax saving gained by the reorganization was approximately $50,000. ¹³

*464 As discussed above, there were several purposes for the acquisition of MGI stock by April and for the acquisition of April's assets by MGI. We have carefully considered the relative importance of these purposes to the April and MGI directors and shareholders at the time of the acquisitions. Mr. DeCoursin and Mr. Adams testified that the tax benefits were of little significance in their decisions. Respondent argues that the magnitude of the tax saving involved dictates a different conclusion. From a consideration of the entire record, we find that tax avoidance, while one purpose, did not exceed in importance any one of the other purposes for which the acquisitions in question were made. Consequently, the acquisitions did not have as their principal purpose the evasion or avoidance of Federal income tax and therefore respondent erred in disallowing the questioned deductions and credits under section 269.

Because of concessions made by petitioner,

Decision will be entered under Rule 155.