Opinion ID: 1494647
Heading Depth: 1
Heading Rank: 2

Heading: income attributable to the intercorporate relationship

Text: The United Truck & Body Company was organized three or four years ago as a wholly-owned subsidiary of the Company. It owns and operates school buses under contracts with various local communities, sells trucks, truck parts and accessories, and ostensibly conducts a truck repair service. Its operating capital, or at least a substantial part thereof, came from the Company which at the end of May 1964 had an investment in it of $44,000 consisting of $150,000 in capital stock, $146,000 in interest-bearing notes, and $144,000 on open account. The interest-bearing notes apparently represent advances made by the Company to the subsidiary for the purchase of school buses and, under the accounting practices of the two corporations, is charged by the subsidiary as a cost of its school bus rental division, and is classified by the Company as Other Income rather than as operating revenue. To some extent the two companies share personnel. Policy decisions of the subsidiary are made by the Company's president. A Company vice-president is in effect in charge of its operations and other Company personnel contribute time to its operations. The president receives all of his compensation from the Company and the vice-president receives $10,000 each year from the Company and $800 from the subsidiary. Other employees are paid by the Company which in turn collects from the subsidiary a just proportion of their salaries or wages. It makes no contribution, however, to the overhead expenses allocable to the other employees. The relationship between the two companies as concerns the subsidiary's truck repair service is unusual. The subsidiary has contracted to repair and service various fleets of trucks but, instead of doing the work itself, subcontracts it to the Company. The Company's profit projected for the base period for such work is $36,000 and the subsidiary on the calendar-year basis will profit therefrom by $39,160. The Company classifies what it will receive as Net Income From Non-carrier Operations rather than as revenue from operations. In addition, Company personnel does the repair work on the subsidiary's school buses on a nonprofit basis, the Company receiving only enough to equal its out-of-pocket cost. This manner of doing business is explained by the Company as having been adopted in order to provide a means whereby its garage facilities may be more fully utilized and some of its service personnel, who otherwise would be dismissed for lack of work, retained on its payroll. The administrator found that the operations of the two companies were intertwined, that the subsidiary realized profits because of a favorable relationship with the Company, and he concluded that for rate purposes he should pierce the corporate veil   . He included the subsidiary's net profit estimate of $55,000 for the base period as part of the Company's operating revenues and in addition reclassified to that account both the $11,000 received by the Company as interest on the promissory notes and the estimated profit of $36,000 to be realized by the Company from its performance of the subsidiary's truck repair contracts. The Company argues that it was error to disregard as fiction the separate corporate identity of the subsidiary, and further that in any event it was illegal and unreasonable to have considered such amounts as operating revenues. The initial question is whether the administrator erred when he disregarded the corporate entity of the subsidiary and treated it as though it were an adjunct of the Company. So far as we are able to ascertain, and the administrator does not contend otherwise, there is nothing in the general or special laws under which the Company operates which inhibits ownership by it of all of the stock of a subsidiary. The question then is to be decided under general principles of corporation law. We pointed out in Vennerbeck & Clase Co. v. Juergens Jewelry Co., 53 R.I. 135, 139, 164 A. 509, that cases involving the relationship between shareholders and corporation are akin to but different from those where the relationship is between a corporation and its subsidiary. In the former the corporate entity is disregarded and will be considered as though an association of persons if it is used to defeat public convenience, justify wrong, protect fraud, or defend crime or work an injustice. See also Muirhead v. Fairlawn Enterprise, Inc., 72 R.I. 163, 48 A.2d 414, 49 A.2d 316, and Arch Lumber Co. v. Archibald, 88 R.I. 49, 143 A.2d 679. In the latter the identity of the subsidiary is ignored when it is so organized and controlled and its affairs are so conducted, as to make it merely an instrumentality, agency, conduit, or adjunct of another corporation. 1 Fletcher, Cyclopedia Corporations (perm. ed.) § 43, p. 203; Chicago, Milwaukee & St. Paul Ry. v. Minneapolis Civic & Commerce Ass'n, 247 U.S. 490, 38 S.Ct. 553, 62 L.Ed. 1229; United States v. Reading Co., 253 U.S. 26, 63, 40 S.Ct. 425, 64 L.Ed. 760; Charles E. Austin, Inc. v. Secretary of State, 321 Mich. 426, 434, 32 N.W.2d 694; Mueller v. Seaboard Commercial Corp., 5 N.J. 28, 34, 73 A.2d 905. The Company in substance contends that its ownership of all of the capital stock of the subsidiary even when coupled with joint management does not create such an identity of corporate interest between the two as to justify a disregard of the separate existence of the subsidiary. We agree that the authorities support that position. Lowell Gas Co. v. Department of Public Utilities, 324 Mass. 80, 84 N.E.2d 811; Berkey v. Third Avenue Ry., 244 N.Y. 84, 155 N.E. 58, 50 A.L.R. 599; Superior Coal Co. v. Department of Finance, 377 Ill. 282, 36 N.E.2d 354; 1 Fletcher, supra, p. 206. We must look, however, at the totality of the circumstances surrounding the relationship and determine whether in the light thereof, as the court said in Chicago, Milwaukee & St. Paul Ry. v. Minneapolis Civic & Commerce Ass'n, supra, 247 U.S. at page 501, 38 S.Ct. at page 557, the stock ownership has been resorted to, not for the purpose of participating in the affairs of a corporation in the normal and usual manner, but for the purpose, as in this case, of controlling a subsidiary company so that it may be used as a mere agency or instrumentality of the owning company   . Here, when we consider all the circumstances, we find that the subsidiary is engaged in the highly profitable venture of providing bus transportation for school children notwithstanding that the Company itself engages in the charter bus service. As to that service the Company provides the subsidiary with management service without receiving in return an aliquot share of the cost, furnishes it with capital funds on only a relatively small portion of which it receives a return and repairs on its premises and with its personnel the school buses without reward other than a recapture of its out-of-pocket expenses. In addition, the subsidiary serves merely as a conduit through which the truck repair service work passes on its way to performance by the Company. If the school bus operation and the truck repair service were inconsequential parts of the subsidiary's operations, they might be disregarded, but they assume paramount importance when it appears that of its projected gross earnings of $113,470 for the calendar year 1964, $67,310 will come from the school bus operation. $39,160 from the truck service department, and only $7,000 from all other segments of its business. In our opinion, the substance of the relationship between the two corporations is such that we cannot say that the administrator acted either illegally or unreasonably when he found in effect that the identity of the subsidiary had been merged with that of the parent. The Company further argues, however, that the interest received on the subsidiary's promissory notes, the subsidiary's net operating profit, and the Company's profit arising from the services performed in the repair of trucks are unrelated to its operation of a public transportation service and should not for rate-making purposes be considered as operating revenues. The term operating revenues is used in sec. 7(b) where operating ratio is defined as the ratio of all reasonable and prudent operating expenses    to operating revenues.  (italics ours) The Company, in substance, asks us to construe that term as though it read operating revenues received in the public transportation service. In construing the statute, however, the words must be given their plain meaning unless a contrary intention appears, and if the words are neither equivocal nor ambiguous we do not interpret or extend them but apply them literally. United Transit Co. v. Hawksley, 86 R.I. 53, 133 A.2d 132; Irish v. Collins, 82 R.I. 348, 107 A.2d 455; State v. Nadeau, 81 R.I. 505, 105 A.2d 194. Here, application of the plain meaning test requires that there be included in operating revenues the results of the sale of goods and the rendering of services. This is not only the ordinary meaning, but is in accord with the generally accepted definition given to the word revenue in the field of accounting. Wixon, Accountants' Handbook (4th ed.) sec. 5, p. 1. Once the separate corporate identity of the subsidiary is disregarded and the operations of the two corporations merged, operating revenues, as we have construed that term, include the interest income of $11,000, the truck repair service profit, and the $55,000 which the subsidiary now treats as net profit from operations. The administrator did not exceed the bounds of what is either legal or reasonable when he added these items to the Company's estimate of operating revenues.