Since we at Abo Cipolla Financial Forensics, LLC are often brought in by attorneys, the Courts or other third parties to evaluate and quantify damages, we thought some of the key takeaways from a seminar we gave to certified trial attorneys entitled “Measuring Damages – Lost Profits vs. Lost Business Value” would be of interest to our friends and colleagues.

• Business damages are calculated by two common damage measurement concepts- lost profits and lost business value.
• In either of these two approaches we want to put the plaintiff, the injured party, in an economically equivalent position. In both a tort matter and a contract matter, we, as damage experts, have to get direction from the lawyer and consider liability, proximate causation, and reasonable certainty. If solely in the contract arena, we also need to consider forseeability (i.e. explicit or implicit expectation of damages).
• One 10^th Circuit case we read stated it quite well: “Numerous jurisdictions hold to the view that when the loss of business is alleged to be caused by the wrongful acts of another, damages are measured by one of two alternative methods:  (1) the going concern value; or (2) lost future profits. The courts allow a plaintiff to recover either the present value of lost future earnings or the present market value of the lost business, but not both.   The “going concern value” is the price a willing buyer would pay and a willing seller would accept in a free marketplace for the business in question.  It measures damages by awarding the difference between. The award of lost profit damages in addition to this amount, however, was an improper double recovery.”
• Courts thus will often see the real purpose of compensatory damages for lost business value to place an injured party in the same position as it would have been had there been no injury. Thus, the decrease in value will be measured by the value prior to and subsequent to the defendant’s misconduct. This should be the same as compensatory damages for lost profits or the amount required to make the injured party whole and put it in the same position it would have been but for the defendant’s action.
• When determining lost value as well as computing lost profits, the use of estimates and projections are required, thus throwing more variables into the mix. Corroborating the underlying assumptions of any such projections is a critical component and we need to effectively focus in on the accuracy of such calculations and their underlying assumptions.
• “Lost profits” damages are generally considered taxable income to the Plaintiff (As an aside, there may be exceptions when damage measurement by use of “lost profits” is used in a personal injury or wrongful death action. See Abo’s separate handout on this). As a result, Courts will typically not reduce the gross award from the Defendant. Doing such would certainly not leave the Plaintiff whole ”but for” the alleged wrong resulting in incurring an effective double tax. In addition, public policy is considered better served by the defendants having to pay the full amount of the damages they caused. The Plaintiff company would receive the award pre-tax, then pay applicable taxes and would presumably be left in the same after-tax position it would have been “but for” the alleged wrong. Such is why we experts would, in most cases, compute the benefits stream for a “lost profits” calculation before income taxes.
• Conversely, in valuing a company in a lost business computation, an appraiser will often apply income taxes to the benefit stream being used in the income approach of valuation. A shareholder will also typically receive cash flow after-tax and, thus, any lost value from the appraisal is based on after-tax earnings.
• In lost profits damage calculations we generally use a specific time period computing what the enterprise would have earned during the limited period of loss rather than the actual loss suffered. Losses into the future are discounted to present value at an applicable discount rate, risk adjusted or court determined, generally to the date of trial. If the business is totally destroyed than, in a business appraisal, the “but for” income is computed into perpetuity rather than a specific time period as under the lost profits methodology. An appraiser may reconcile how this lost income translates to the lost value of the business. Desirous of assessing “economic certainty” in the matter, Courts are obviously hesitant to grant lost profits damages for long periods where such projections become more and more imprecise too far into the future.

Confused?  Requesting of us at www.aboandcompany.com copies of the full handouts may help but, still, that’s okay.  We only wanted to give you a “taste” of what we do besides Quickbooks, accounting, tax returns and business planning.

Abo and Company, LLC and its affiliate, Abo Cipolla Financial Forensics, LLC, Certified Public Accountants – Litigation and Forensic Accountants are members of XPX-Philadelphia. The above article was retrieved from the “E-mail alerts” disseminated to clients and friends of the firm. With offices in Mount Laurel, Morrisville, PA and Franklin Lakes, NJ, tips like the above can also be accessed by going to the firm's website at www.aboandcompany.com  or by calling 856-222-4723.