Accurately assessing lost profits is crucial for determining adequate compensation in legal disputes. However, this task is fraught with potential pitfalls, and mistakes can undermine the credibility of a claim, affect settlement efforts, and influence court decisions. To ensure precision and reliability, it is essential to be aware of and avoid common pitfalls in the calculation.
Failing to Establish a Reliable Baseline
Any calculation of lost profits must be made to a reasonable degree of certainty and without any speculation. This can be accomplished by specific identification of lost or impacted customers. If specific identification is not practicable, then it is key to establish a reliable baseline. Typically, this is based on the historical financial performance of the subject company, but data from guideline companies, competitors or the broader industry can also be applied. Insofar as it is possible, ensure that baseline data reflects normal, pre-dispute performance.
Ignoring the Impact of External Factors
An important factor to consider, one that will come up in rebuttal if you do not, are external factors that might influence a business’s performance. These factors can include market trends, economic conditions, industry changes, and competitive dynamics. The short- and long-term implications of COVID are still being understood, and much academic through has been invested on the impacts of COVID for this reason. Failing to account for these elements can lead to errors in calculating lost profits, causing your calculation to fall apart under cross examination. If possible, a thorough analysis should consider adjustments to isolate the impact of the dispute from other influencing factors.
Overlooking Mitigation Efforts
Duty to mitigate requires that a business take reasonable steps to reduce its losses. If a company has not and your expert ignores this failure can result in inappropriate lost profit calculation. Assessing lost profits should consider the mitigation steps taken by the business to minimize the impact of the dispute. This includes considering any alternative revenue sources, the subject’s capacity, cost-cutting measures, and operational adjustments implemented in response to the dispute.
Incorrectly Accounting for Future Changes
Lost profits assessments can consider losses in all periods, not only address past losses. A common oversight is failing to project how the dispute might affect the subject’s long-term profitability. This involves estimating the duration of the lost profits and projecting future losses. A robust assessment might include forecasts and projections that reflect both the immediate and extended impacts of the dispute. Other considerations are impacts from the broader world, either known economic or industry cycles or events that occurred after the initial dispute but before the date of trial.
Inadequate Consideration of Industry Norms
Industries have different norms and benchmarks for profitability. Failing to consider how the lost profits assessment aligns with industry-specific standards can lead to inaccuracies. If the lost profits calculations does not align with industry norms, it should be carefully considered why as that will likely come up in cross examination. Conducting a comparative analysis with industry peers and understanding the business’s position relative to industry norms are important steps to consider. This helps ensure that the assessment reflects realistic expectations and is consistent with industry practices.
Lack of Expertise
Finally, conducting a lost profits assessment requires specialized knowledge in accounting, finance, and economics. Engaging an expert with the requisite skills and experience is essential for a credible and accurate assessment. Relying on generalist professionals or those without a deep understanding of lost profits calculations can lead to critical errors.
What Should I Do?
Hire an expert witness (like us). As an expert, we will save you time and money because:
- We are intimately familiar with the data sources used in lost profits and combine this information with informed financial analysis.
- We have experience defending lost profits in deposition and at trial. We can provide expert witnesses testimony in a simple, efficient manner so that triers of fact can understand otherwise complicated subjects.
- Our Team have performed hundreds of lost profits in hundreds of matters across every imaginable industry.