Note payable to bank, secured by chattel mortgage...

Other notes payable to bank, unsecured..

Accounts payable, trade----

Accounts payable for products---.

Draft liability at Blackfoot---

Federal and State taxes payable_-.

Federal income taxes payable----

Accrued interest payable--.

Other accrued liabilities__

Total current liabilities---

11, 556. 00

725, 272. 02

Aug. 1, 1947

$255, 000. 00

50, 972. 83

83, 672.79

17, 537.34 5, 666. 50

764. 67 11, 657.89

425, 272. 02

Capital stock and surplus:

Capital stock, authorized 500,000 shares common stock, par value $1.00 per share, issued and outstanding, $300,000 shares earned surplus

Total capital stock and surplus----Contingent liability as endorser on various

notes of milk shippers, $159,258.77

Total

300, 000. 00

300,000.00

$725, 272. 02

The changes in the shareholdings of Jerseymaid Milk Products Co., Inc., which occurred on September 14, 1950, September 25, 1950, and September 24, 1951, were made in order that the percentages of shares owned by the purchasers of its products would be substantially the same as the relative percentages of total purchases of all products from Jerseymaid.

Petitioner W. J. Thiessen was one of the founders and managing partners of Jerseymaid Milk Products Co. in 1935 and continued in that capacity until 1947. In 1947 he became president of the corporation. He devoted all of his time to the management of Jerseymaid. Petitioner James Marzullo, another of the founders of the Jerseymaid milk-processing business, was also a managing partner until 1947 when he became secretary-treasurer of the corporation, devoting his full time to its management.

The remaining stockholders of Jerseymaid, T. A. Von der Ahe, S. A. Alexander, Henry Carty, Edwin J. Fox, Roberts Public Markets, Inc., and Fitzsimmons Stores, Ltd., were owners of chains of retail grocery stores in the metropolitan Los Angeles area.

The total sales of the corporation for the 5 months ended December 31, 1947, and the years 1918, 1949, 1950, and 1951 were as follows:

The percent of the total sales of Jerseymaid Milk Products Co., Inc., to each of its principal customers for the 5 months ended December 31, 1947, and the years 1948, 1949, 1950, and 1951 was as follows:

Throughout its existence and on January 12, 1952, Jerseymaid was a "captive creamery" of the supermarket chains which at all times here material owned more than 77 percent of its outstanding stock. The corporation produced bottled milk but no other milk products. However, it was also engaged in the business of distributing milk and dairy products, butter, ice cream, eggs, and frozen foods. Its bottled milk was produced both from milk obtained from its own. dairy herd and also from milk purchased from independent dairymen. The corporation, on January 12, 1952, owned a dairy farm with a herd of 634 cattle located at Camarillo, California. Jerseymaid at

no time engaged in the sale of milk at retail through home-to-home deliveries. On January 12, 1952, the corporation had no customers other than its five owning supermarkets, with the sole exception of Safeway Stores. The patronage of Safeway Stores was limited to frozen foods. With minor exceptions, the owning supermarkets consistently sold Jerseymaid milk and milk products exclusively.

As of January 1952, the chain supermarket stockholders in Jerseymaid and the number of retail outlets operated by them were as follows:

The principal reason for the practically exclusive use of Jerseymaid products by the five supermarket chains which on January 12, 1952, held 80 percent of its outstanding stock was the extreme efficiency in operation of Jerseymaid and its relatively low operating costs which made possible a higher operating profit than normally could have been obtained by a noncaptive operation. Captive creameries, such as Jerseymaid, effected cost savings primarily by purchasing commodities in large quantities and by delivering in large volume, making possible a rapid turnover in inventory. As a captive operation, it had no need for employing salesmen or for collection personnel to assist in collecting accounts receivable. Jerseymaid utilized the most modern processing equipment. Because of such savings the corporation's per-unit cost of processing and distributing dairy products was sharply reduced in comparison with the per-unit costs normally incurred by a noncaptive operator.

At all times here material the minimum prices at which milk could be sold in the State of California at the producer, wholesale, and retail levels were fixed by administrative regulation. Under California law the State director of agriculture was authorized and required to regulate at every level the sale of milk and milk products and to establish minimum prices "from the cow to the consumer." Cal. Agric. Code, secs. 735 (c), 735.4(b), and 736.11. The operating cost level incurred by noncaptive creameries in California normally was utilized by the State director of agriculture in his determination of a "reasonable profit" by a "reasonably efficient" distributor and the consequent establishment of minimum wholesale milk prices. Cf. Cal. Agric. Code, sec. 736.12. Because captive dairies operated generally more efficiently it naturally followed that they were able to realize generally a greater profit than noncaptive dairies. The established noncaptives in the Los Angeles area incurred considerably higher operating costs during 1948 through 1952 than Jerseymaid.

Except for the existence of the milk control laws in the State of California, the five supermarket chains which on January 12, 1952, owned 80 percent of Jerseymaid stock and purchased practically all of its dairy products could have obtained substantial discounts or rebates from their low-cost captive distributor. But the effect of the California milk control laws was to make any such discount, rebate, or gift illegal and consequently to foreclose the possibility for the owning supermarket chains by this method to obtain any direct benefit from the cost savings made possible by the captive operation. Cal. Agric. Code, secs. 730.2 and 736.13.

None of the grocery chain customers of Jerseymaid began to purchase its products until first acquiring Jerseymaid stock, and the purpose of each of these supermarket chains in acquiring an ownership interest in the corporation was to share in the high margin of profit made possible by its captive operation. Mayfair Markets sold its stock in Jerseymaid on March 8, 1948, and the stock owned by Shopping Bag was redeemed by the corporation on October 7, 1948. These companies were customers of Jerseymaid in 1948, but ceased to be thereafter.

Jerseymaid earned net income before taxes and depreciation for the years 1948 through 1951 of $2,152,637.88.

The milk produced and sold by Jerseymaid during the years 1947 through 1952 was of good quality and comparable to that produced by competing creameries in the Los Angeles area. Jerseymaid milk contained 3.6 percent butterfat although the State of California required only 3.5 percent. The corporation was frequently awarded California State Fair awards in recognition of the good quality of its products. All milk produced in the Los Angeles area during 1951 and 1952 was subject to rigid quality controls by the State director of agriculture. The milk and dairy products produced by competing creameries were also of good quality and won numerous awards in recognition thereof.

From January 1, 1948, through January 12, 1952, the corporation expended the following amounts for advertising its products:

In addition to the advertising conducted by the corporation itself, its name and products were consistently promoted by the retail outlets belonging to Von's Grocery Co., one of the grocery chains owning

stock therein. The amount of advertising carried on by Jerseymaid was relatively small in comparison with the extensive advertising conducted by noncaptive dairies. As a result of these consistent advertising activities, Jerseymaid products gained wide consumer acceptance throughout the Los Angeles area. Neither the officers of Jerseymaid nor the managers of the supermarket chains believed it necessary to engage in more extensive and more costly advertising endeavors because their experience had established that the customers of the various retail supermarket outlets would continue to purchase the dairy products carried by those supermarkets so long as they proved to be of good quality.

Widespread advertising in the Los Angeles area throughout a period of several years prior to 1952 had created a demand for several other brands of milk and milk products such as Carnation, Arden, Knudsen, and Adohr. Many individual customers requested the chain supermarket stores which purchased from Jerseymaid to carry one or more of these other widely advertised brands. The producers of these brands of milk and milk products consistently solicited the owning supermarkets for the sale of their products to these chainstores during the years 1948 through 1952, but without success. The Alexander Markets, Inc., Carty Bros., Fitzsimmons Stores, Ltd., Market Basket, and Von's Grocery Stores were not interested in stocking the products of other milk producers because of their extremely profitable ownership interests in Jerseymaid which made it advantageous to them to handle Jerseymaid products exclusively. No actual consumer demand for Jerseymaid products existed during the period August 1, 1947, to January 12, 1952.

The acquisition of the Jerseymaid properties by a new owner on or about January 12, 1952, would have cost it the exclusive, if not the entire, patronage of its five food chain customers. In the event of the sale of the corporation's assets on January 12, 1952, it would have been more profitable to the five stockholder-customers to form a new captive creamery and distributorship, and to transfer their patronage from Jerseymaid to the new captive, than to continue to purchase from Jerseymaid or another noncaptive dairy. No contracts existed in January 1952 between Jerseymaid and any of its customers which required them to continue their patronage of the corporation. Other supermarket chains in the Los Angeles area owned captive distributors in 1952, not only of dairy products but of other commodities also. Ownership of a captive dairy or creamery was extremely attractive to large grocery chainstores in California because of the opportunity for realizing both the wholesaler's and the retailer's margin of profit and the protective price "umbrella" resulting from the favorable cost analyses and pricing practices employed by the California director of agriculture.