Page 81 - Economic Damages Calculation

and did a "rough appraisal" of the net profits by manually allocating revenues and expenses between the
ice cream parlor and the other parts of the "Family Fun Center."

Ultimately, the Court of Appeal of California reversed the award of lost franchise fees and lost profits.
The Court of Appeal pointed to a number of shortcomings in the analysis prepared by plaintiffs’ expert,
including the expert’s failure to understand the source of the data relied upon and the methodology used
to prepare the pre-litigation projections incorporated into the damages analysis.

The record showed the projections had been part of an offering circular prepared by the plaintiffs, which
was not based on actual operations, but rather the plaintiffs’ assumptions. In preparing these projections,
the plaintiffs testified that they had consulted with the defendants. The defendants’ testimony confirmed
this involvement and went on to indicate that "we ... backed into our numbers, ... [meaning] we knew
what we had to do in order for this to be economically viable ... you can’t really say they’re inaccurate. fn
63 They could be optimistic, but they’re not necessarily inaccurate." Although there was also some lim-
ited evidence available regarding the nature of the projections, the court concluded that "none of [it]
show[ed] how the projections were actually calculated or upon what facts they were based." fn 64

The Court of Appeal noted as follows:

Although prelitigation (sic) projections are relevant and admissible, especially when they are
prepared by the defendant, the projections must nevertheless be based on facts that are substan-
tially similar to the lost business opportunity. fn 65

Addressing the case at hand, the court concluded that the projections relied upon by the expert had not
been shown to be based on facts substantially similar to the lost business opportunity of the Farrell’s Ice
Cream Parlour locations in question. The court also found the expert’s additional analyses lacking, in-
cluding criticizing the lack of similarity between the company that the expert used to benchmark the pro-
jections and the Farrell’s businesses in question.

This case and those presented in chapter 2 highlight the importance of understanding the source of in-
formation used in constructing a damages analysis. Although the projections used in this matter were
developed outside of litigation, the court focused on the underlying bases for such projections and ap-
peared to give little weight to the defendants’ belief that the projections were "not necessarily inaccu-
rate."

Experts are often faced with imperfect information, especially in the case of calculating lost profit dam-
ages for a new business. When presented with such a scenario, the expert may want to consider other
analyses that support the reliability and relevance of projections provided by others.

fn 63 Id. at 194.

fn 64 Id.

fn 65 Id. (citations omitted).

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