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8. Whether the Recipient of the Advance Is Adequately
Capitalized
a. Capitalization of Petitioners
Inadequate capitalization strongly suggests that an advance
is equity if: (a) The debt to equity ratio was initially high,
(b) the parties realized that it would likely go higher, and (c)
the recipient of the funds used a substantial part of the funds
to buy capital assets and to meet expenses needed to begin
operations. Estate of Mixon v. United States, supra at 408;
United States v. Henderson, 375 F.2d 36, 40 (5th Cir. 1967).
Courts generally consider a borrower's debt to equity ratio and
other financial data in deciding if it is thinly capitalized.
See, e.g., Tyler v. Tomlinson, supra at 848-849.
The GSX purchase made petitioners' debt to equity ratio high
during the first year in issue which ended August 31, 1986.
Petitioners contend that they were not thinly capitalized. They
contend that both their and respondent's experts testified that
they were not thinly capitalized and that their financial
condition was as good as their competitors. We disagree.
Petitioners' debt to equity ratio worsened after buying GSX
because they continued to receive advances from LIIBV.
Petitioners used most of the advances from LIIBV to pay capital
expenses such as to acquire more businesses.
Theresa Poppei (Poppei), petitioners' expert, and David N.
Fuller (Fuller), respondent's expert, testified about
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