Tuesday, December 11, 2012

Critiquing an Expert Report: Step 5 – Identify the Damages Approach

You have researched the author’s credentials, checked for scope limitations, identified the underlying assumptions and assessed the nature of the opinion being provided.  Step 5 involves identifying and assessing the damages approach adopted by the expert. 
"There are many ways to approach an analysis of a loss resulting from a particular set of facts. Part of the expert’s role is to identify all of these alternatives and determine which is the most appropriate." [1]
The quantification of economic damages is based on the premise that an award of damages should place the plaintiff in the same financial position that it would have been in had the alleged wrongdoing or breach never occurred.  The independent expert valuator must develop an economic model to project what would have happened "but for" the defendant’s alleged acts to compare to what is actually expected to happen as a result of the alleged acts.

Common approaches for quantifying damages in a commercial dispute (e.g. breach of contract, patent infringement, etc.) include:
  1. Lost royalties approach – the royalties the plaintiff could have generated by licensing the right to use the patent, trademark or brand name that is being infringed upon
  2. Lost profits approach – the profits the plaintiff would have enjoyed "but for" the alleged breach less the profits that will actually be earned by the plaintiff despite the alleged breach
  3. Accounting for profits approach – the profits that the defendant actually enjoyed as a result of the infringement or alleged breach
  4. Increased operating costs and/or out of pocket costs – the costs incurred by the plaintiff as a direct result of the alleged breach
  5. Lost value of business – the lost or diminished value of the business, division or product line suffered by the plaintiff as a result of the alleged breach
It is the expert’s role to determine which approach is appropriate in light of the case-specific facts and circumstances.  For example, the lost profits/royalties approach or the accounting for profits approach is often considered in patent infringement matters.  In breach of contract matters, it is common to see the lost profits approach applied. 
In reviewing the expert report, the following questions should be addressed:
  1. What damages approach was adopted?
  2. Is the damages approach appropriate under the circumstances?
  3. Would an alternate damages approach be more suitable?
  4. What would be the impact on the conclusions if a more suitable damages approach was applied? 
  5. Would adopting an alternate damages approach corroborate or refute the damages calculated under a primary approach?
Consider an expert report where the valuator has quantified damages using a lost profits approach in a breach of contract matter.  In critiquing the report you should consider what the damages would have been had the entire business been destroyed (i.e. the value of the business immediately before the breach).  If the value of the entire business is lower than the expert’s lost profits calculation, this could indicate that the damages have been overstated.
In my experience, experts will typically agree on an appropriate damages approach.  It is the application of the approach and/or the underlying assumptions where experts will often differ.  However, identifying and understanding the damages approach adopted by the expert is critical to an effective review and critique of that expert’s report as, in those instances where an inappropriate approach has been applied, the conclusions could be significantly inaccurate.

1.   The Litigators Guide to Expert Witnesses, Mark J. Freiman and Mark L. Berenblut, p. 87.

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