How Industry Can Get the Cash It Needs

PLANT EXPANSION

How Industry Gets the Cash It Needs

FAST tax write-offs do not provide the basic solution to the financial difficulties of every industry for large amounts of money required for long-lived equipment. The fundamental solution lies in the revision of the overall tax structure to recognize the limitation that inflation imposes on the replacement of equipment." With these words last week, U.S. Steel Chairman Roger M. Blough pointed up a problem that goes far beyond the immediate argument over ODM's refusal to grant fast tax write-offs to ease the steel shortage. The problem: How can U.S. industry continue to replace and expand its plants in an age of tight money, creeping inflation, and rapidly growing obsolescence?

One of the biggest troubles is that the present system operates largely on the theory of "straight-line" depreciation, under which a company deducts a fixed percentage of the cost of its plant each year, e.g., 4% annually for 25 years, until eventually it recovers the full original cost. An obvious flaw in the system is that it makes no allowance for the speeded-up obsolescence caused by the billions going into new product research. As President William G. Laffer of Cleveland's Clevite Corp. says: "In electronics, for example, where there is a fast-changing technology, equipment is frequently outdated as soon as it is designed," and every industry, from aviation to petrochemicals, is learning that five years is frequently the maximum instead of the minimum productive life for a new piece of industrial equipment.

To try to solve the problem, Congress revised a section of the law in 1954 to allow companies to take as much as 35% of their original cost during the first five years, spread the rest over the next 20 years. But even these improvements, say businessmen, are still far from adequate, since the revised section applies only to plants built after 1954, does not help businessmen replace old plants.

At best, companies will get back only what it cost them to build a plant, not what it may cost to replace in years later. In times of relatively stable costs, such a system causes no hardships, but with costs constantly rising, a businessman will be lucky if he gets back 50% of his replacement costs. In 1940, for example, it cost the steel industry $100 to add a ton of steel to its productive capacity; now the cost is up to $300.

What is needed, businessmen say, is a completely new approach to depreciation. One suggestion is to base all depreciation allowances on replacement instead of original costs, thus counteract the effects of rising prices.

Another idea is for a flexible depreciation allowance based on the inflationary ups and downs of the economy. Under this proposal, as expounded by Cleveland Electric Illuminating Co. Vice President Ralph M. Besse, depreciation rates would still be on the basis of original costs, but would vary according to changing dollar values; thus if rates, for example, were 3% annually and prices shot up 100%, the allowance would automatically double, and businessmen could recover 6% of their original cost in that year. "Even so," says Besse, "at the end of the depreciation period, we would not have recovered enough dollars to pay total replacement costs; but we would recover in each year the value lost in that year."

Economists and tax experts hold out little hope for any such sweeping changes, at least in the immediate future, since the greatest benefit would go to heavy industries, whose long-term equipment costs are pinched hardest by inflation. Says one Chicago banker: "It would simply amount to a subsidy for heavy industry. You can get Congress to subsidize the farmer, but I don't think you can get it to subsidize the steel industry."

One compromise solution that both businessmen and Government tax lawyers are exploring is a more liberal depreciation rate, which would let any expanding company deduct up to 50% of the cost of any new asset in the first five years. While such a program might not satisfy heavy industries, it would at least ease some of the pressure of increasing obsolescence and spiraling inflation, though some critics argue that it would bring a temporary tax loss for the Government. After a study of tax write-offs, Virginia's Senator Harry F. Byrd, chairman of the Senate Finance Committee, says that there has been a temporary loss of $5 billion in revenue since Korea because of defense fast tax write-offs. But many economists do not think that accelerated depreciation for peacetime industry would be a hardship for the Government. During the past six years, despite the fact that industry was granted tax write-offs on $37 billion in plants, the increased production and business activity actually boosted the Government's overall take in corporate taxes from $11 billion a year to $20 billion a year.

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