Business damages – Economic Thinking In Action

Preparing for Loss of Business Claims following COVID-19

The rise of COVID-19, followed by national stay-at-home orders, has caused many employers to temporarily close, furlough or completely lay off employees, and perhaps unfortunately, close their doors completely. Businesses, no matter how small or large, are feeling the effects. And so is their bottom line. In the coming years, employment attorneys may see an increase in the number of businesses seeking claims for business interruption insurance. When such cases arise, it is crucial to get the correct documents from the business in order to determine exactly how much revenue was lost.

As a general rule when valuing the lost profits of a business, it is important to get as much detailed information as possible for the past three to five years. Tax records for the business will provide general information about the businesses success and overall projections for the future. Profits and losses from past years of the business will allow economists to determine the trajectory of the business prior to the interruption. If a business was declining in profits or had negative profits prior to the interruption, it is unlikely the business would have stayed afloat even if the interruption had not occurred. On the other hand, a business could have been experiencing steady increases in profits or had plans to expand that were abruptly halted. Understanding the overall state of the business is important to value potential losses.

In addition, weekly revenue and expense records will provide a much clearer picture of the state of the business pre- and post-disruption. With a restaurant for example, it would be important to know each week what the typical sales were from food and alcohol separately, as well as the typical expenses associated with items like food purchasing, staff, and electricity prior to any disruption. Detailed records prior to the disruption will then be able to be compared to current and future revenue and expenses to determine what the business has lost.

Keep in mind, the type of information that will be available for each type of business will be different, as will the metrics of success. However, this information above will give an economist the relevant background to assess any damages to the business.

Calculating business interruption damages of a cattle operation

There a number of different types of economic damages that arise in business interruption cases. One type of damage is the lost profits associated with the business interruption. Another type has to do with the loss of asset and/or property values. Out-of-pocket expenses associated with the incident that caused the business interruption is another common loss in business litigation.

The example below involves business interruption litigation involving a midsize cattle operation. The impacted cattle operation is is based on an 1000 acre ranch in Central Texas. The cattle company earned its revenue from the sell of registered cows and calves, commercial steers, hay and other agricultural products related to cattle production.
The company’s the ranch operation was damaged by a welding fire that was sparked in the main section of the property. The fire caused a number of buildings to be damaged. Several livestock areas suffered damage that resulted in the death of livestock and the damage and destruction of machinery and equipment.
The company had business interruption insurance. The company’s insurance policy worked off a formula that reimbursed the company for a set period of lost profits, out-of-pocket expenses, and expenses to get the business back to where it was prior to the incident.

After the fire the ranch management filed a claim with the insurance company. The insurance company did their analysis and reimbursed them for their losses according to the policy. The ranch owners did not agree with the amount that was paid by the insurance company. The ranch owners calculated that they were both out of pocket a lot more than the insurance company calculated and their lost profits were higher. The ranch also calculated that it would take a longer period of time for them to be able to get back up to speed.
Ultimately after several year months of dealing with insurance company the ranch owners suit the insurance company and other parties including the company that started the fire. In this case the ranch alleges that several types of economic loss associated with the business interruption have occurred.

The ranch first alleges incurred out-of-pocket us expenses associated with the cleanup of the damage and destruction of its property and assets. In this case these expenses include removing machinery replacing machinery and disposing of livestock. In addition the company has also incurred a loss associated with the amount that will be required to get the company back to where it was before the fire. In this instance, these expenses include fixing and replacing the machinery fixing and replacing buildings and purchasing new livestock. In addition to the out-of-pocket expenses associated with the remediation of the damage and the purchase of new equipment and livestock, the business operation has also alleges lost profits during in the time period in which they were the remediation occurred. In this instance the company lost out on calf sales, hay, and other agricultural products that were damaged or destroyed from the fire. The ranch operation also was not able to conduct its auction of its crop because of the fire.

Household services for males and females living in Mexico

Everyone knows that people do more than work for pay. In an injury or death case, it is common for plaintiffs to assert that they have been economically harmed because the injured or deceased person can no longer provide household services. Household services include activities such as mowing the lawn, taking care of the household, etc.

Below are some rough tabulations for the number of households services (in hours) performed for males and females residing in Mexico. The data is obtained from the Mexican Time Use Survey. Generally females spend substantially more time on household production activities.

For males:

inside_hwork	1.27
foodprep	2.95
petandhome	1.58
hhmanagement	1.08
shopping	1.18
obtain_services	0.05
travel_hhactivity	0.05

For females:

inside_hwork	12.91
foodprep	14.68
petandhome	1.55
hhmanagement	1.2
shopping	2.12
obtain_services	0.09
travel_hhactivity	0.17

Accounting for incremental costs in lost business profits analyses in commercial litigation

In business and commercial litigation, it is frequently alleged that the offending party’s actions resulted in a lost of business profit for the other party. In some instances, the issue is that the offending party’s actions prevented the pursuit of a given business opportunity as opposed to the reduction of profits or revenue from existing business. In other words, because of the offending party’s actions the business revenue and associated profit, simply did not happen.

For instance, a local check cashing company that was looking to expand into different areas of the city, was denied a business permit by the City. The City explicitly stated that they were looking to limit the expansion of checking cashing and pay day loan companies within the City limits, so they denied the company’s business permit application. The check cashing company sued the City and claimed a loss of business profits.

In this instance, the new location, and any revenue and profit, did not happen so this would be an example of lost profits as opposed to reduced profits. In this case, and similar ones, the calculation of lost profits requires, an analysis of the incremental cost associated with the revenue that would have been generated from the lost business opportunity, Incremental costs are those costs that are associated with the services or products that would have been produced had the business opportunity taken place.

In this instance,incremental cost would include items such as additonal salaries, office supplies, rents, and fees that the new location would have incurred. A number of items, such as advertising, would be classed as fixed overhead, since they were carried out at a higher organizational level and would not have been effected by the opening of the new location. In determining what is incremental costs versus a fixed cost, the time frame of the damage analysis is frequently a a factor.

Business interruption damages come in many different shapes and sizes

by: Dwight Steward, Ph.D.

Business interruption cases come in many different shapes and sizes. In some business interruption cases the allegation is that the defendants’ actions increased the operating cost of the plaintiff.

For instance and one recent business interruption case the defendant’s drill and on-going construction activity unknowingly interfered with the plaintiffs’ fiber optic lines drilling.

After the damaged lines were discovered by the plaintiff, the plaintiff spent a number of months fixing and creating new fiber optic lines. In addition to the out-of-pocket expense associated with the with the punctured fiber-optic lines, the plaintiffs also allege that they also incurred a correlated expense of having to use some of their existing employees to help mitigate the damage.

For instance, the plaintiff indicated that the mitigation of the damage caused by the defendant caused them to require substantial overtime hours from its employees to reestablish the lines and to maintain their service. The plaintiff after about eight months was able to get back up to speed and back to where there were prior to the incident.

In this case the alleged out-of-pocket expenses were relatively easy to determine. The company had to purchase more fiber optic and faced of the increased cost associated with installing those lines.

However the plaintiff also alleged that they experienced increased operating expenses, especially in terms of employee expenses.

Increased employee operating expenses is not always as straightforward to calculate. In this instance, employer did not necessarily hire more employees. Instead, the employer used their existing employees at a higher level, required overtime, and shifted employees from one job or project to another. In these types of instances the employee expenses associated with the disruption is not so clear.

One way to determine damages in this case is to look at up is to use financial ratios. Financial ratios such as the employee expense to revenue ratio determine show how the company employs its employees.

For instance, a high employee expense ratio to revenue indicates that the company uses a lot of employees relevant relative to their revenue. A company with a high expense to revenue ratio is a relatively labor intensive company. Conversely, a company with a relatively low expense to revenue ratio is a relatively less employee intensive employer or company.

In a business interruption case, one approach is to look at the changes in these ratios both before and after the incident. Changes in these ratios can indicate the impact of the alleged actions. For instance the employee expense to revenue ratio could change dramatically following the alleged incident.

Other useful financial expense ratios include the full-time employee equivalent (FTE) ratios. FTE ratios are ratios that show how many full-time employees the company typically utilizes. FTE measures take into account the part time work, overtime, and the different compensation structures that the company may utilize in its business.

U.S. Commerce Department data show Internet retail sales continue to grow

Retail sales over the internet continue to increase in the U.S.

Internet sales, or as the Commerce department puts it: sales of goods and services where an order is placed by the buyer or price and terms of sale are negotiated over an Internet, extranet, Electronic Data Interchange (EDI) network electronic mail, or other online system, have increased over 15% each year of the last three years.

E-Commerce now makes up about 6% of all retail sales in the U.S.

Source: http://www2.census.gov/retail/releases/historical/ecomm/

Time Period	E-commerce Sales	Change from previous year
2013 Q4	83,709	17.0%
2012 Q4	71,554	15.8%
2011 Q4	61,789	17.5%
2010 Q4	52,567

What is the value of the contract? Calculating the value of a partially executed business contract

In this case, the charging party, the plaintiff, alleges that that the defendant unlawfully suspended a work contract. The plaintiffs had a $10.5 million, 3 year contract with the defendant to install and maintain machinery at a pipe manufacturing facility.

The plaintiff alleges that after the defendant unlawfully solicited and hired its key employee to come and work for the defendant, the defendant then terminated the contract. The plaintiff further alleges that the defendant used the former employees of the plaintiff, and the confidential knowledge that they possessed, to complete the install and maintenance of the multimillion dollar pipe making machinery. The plaintiffs financial records indicated that had performed about 1/3 of the work spelled out in the business contract.

In this instance, the value of the remaining portion of the contract is calculated under two different ‘but-for’ contract breach scenarios. The but-for scenario calculates the profits that the plaintiff would have received but-for the defendant’s alleged breach of contract.

In the first but-for scenario, the profit from the remaining portion of the business contract is calculated as the lost profit from the remaining items of spelled out in the contract. The lost profit is determined by calculating the estimated revenue from the remaining items and subtracting the expected incremental cost associated with the performance of the contract.

In the second but-for scenario, the after-incremental expense profits are calculated based on the items that were actually installed by the vendors that the defendant utilized following the termination of the contract with the plaintiff.

Details on GM Compensation Plan for Death and Physical Recall Injury Claims

In a recent document and interview, GM has laid out its plan to compensate people injuried or those with familiy members who were killed due to product defects. The full plan can be found here. Some highlights are below.

Types of claims covered by plan:

1. Individual Death Claims
2. Category One Physical Injury Claims: claims involving quadriplegic injury,
paraplegic injury, double amputation, permanent brain damage requiring
continuous home medical assistance, or pervasive burns encompassing a
substantial part of the body.
3. Category Two Physical Injury Claims: claims, other than Category One
Physical Injury Claims, that, within 48 hours of the accident, require either
overnight hospitalization of one or more nights or, in extraordinary
circumstances as determined on a case by case basis by the Administrator,
outpatient medical treatment

METHODOLOGIES FOR CALCULATING COMPENSATION

1. Track A – Presumptive Compensation
The Track A presumed methodology relies upon a combination of the decedent’s
historical earnings and personal details with assumptions of likely future events based
upon multiple sources of publicly available national data including the Bureau of Labor
Statistics and the Internal Revenue Service. Eligible Claimants need not present detailed
computations or analyses

This Track A presumed methodology ensures consistent economic loss calculations for
similarly situated victims (i.e., same age, number of dependents and income level)

2. Track B – Complete Economic Analysis

Track B entails a complete, comprehensive economic loss analysis of the decedent’s past,
present and assumed future income. The Facility will consider the financial history of the
decedent through incorporation of submitted individual income data, including past,
present and future earnings, wage growth, work life expectancy, etc., as well as other
case-specific information and circumstances of the decedent that the claimant believes
the Facility should consider in determining the total value of the claim. I

Non-economic losses will also be determined as follows.

• $1,000,000 for the death of the decedent, and
• $ 300,000 for the surviving spouse, and
• $ 300,000 for each surviving dependent of the decedent.

In addition, life care plans to cover future medicals will also funded for injured individuals needing future care.

Details on GM Compensation Plan for Death and Physical Recall Injury Claims

Types of claims covered by plan:

METHODOLOGIES FOR CALCULATING COMPENSATION

This Track A presumed methodology ensures consistent economic loss calculations for
similarly situated victims (i.e., same age, number of dependents and income level)

2. Track B – Complete Economic Analysis

Non-economic losses will also be determined as follows.

• $1,000,000 for the death of the decedent, and
• $ 300,000 for the surviving spouse, and
• $ 300,000 for each surviving dependent of the decedent.

In addition, life care plans to cover future medicals will also funded for injured individuals needing future care.

Are Internally Generated Patents Assets?

Here is the situation. Two divorcing individuals are disputing the value of a company that the two built. After, reviewing the books, one of the parties argues that the other party’s books does not reflect the value of a patent for a medical product they the two individuals developed and held.

The charged party argues that the patent was never recorded as an asset but was instead expensed. That is, the cost of developing the patent was expensed therefore the cost was never capitalized. So the question is:

Q: Is this a common practice for patents?

A: According to some accountants, this is a standard practice for some types if patents.

Specifically, according to some accountants, internally generated intangibles are never capitalized, their cost to develop is expensed. According to FASB ASC 350, 805, only acquired intangibles are on the balance sheet.