By Antonio L. Argiz, CPA/ABV/CFF, ASA, CVA, CFE and Marta Alfonso, CPA/CFF, JD - Morrison, Brown, Argiz & Farra, LLP
In many economic damage cases involving catastrophic losses, such as the BP oil spill, forensic accountants are confronted with computing or evaluating lost profit claims presented by a business claimant. The American Institute of Certified Public Accountants recognizes several basic methods for computing lost profits that involve comparing a claimant’s historical financial performance with its projected financial performance. Apart from these conventional methodologies, a forensic accountant must consider and evaluate numerous components and assumptions in a lost profit claim presented by a business to determine its reasonableness. This article presents several components of a lost profit claim subject to scrutiny by a forensic accountant.
Determining the Period of Loss. An independent determination of a claimant’s period of loss will be made by the forensic accountant that considers, validates, and corroborates a claimant’s historical and projected financial results.
Calculating Lost Revenues. Forensic accountants will skeptically evaluate revenue growth rates found in historical and projected financial results, and should consider and corroborate, where possible, a claimant’s industry performance, comparable nonparty performance, production or service capacity limitations, capital or funding capacity limitations, technological or infrastructure changes in the claimant’s business or operation, pre-claim financial projections, and the individual components of a claimant’s cash and accrual income streams. In addition, the forensic accountant must remain alert to the existence of other economic or operational considerations, if any, that establish a decline in revenues arising from factors other than a catastrophic event.
Cost Estimation Techniques. Forensic accountants will familiarize themselves with a claimant’s variable and fixed cost drivers to estimate costs in lost profit computations. Selecting cost estimation techniques involves substantial judgment and relies on available historical financial and operating information to substantiate a claimant’s projected cost structure and efforts to mitigate damages.
Newly Established Businesses. Newly established claimants will be challenged to provide a forensic accountant with evidence of its ability to have achieved economic success, including the claimant’s industry expertise and experience, its business plan, and its tangible actions taken to generate business before the catastrophe. Other relevant lost profit considerations include the financial performance of comparable businesses, if available, so that operating and financial assumptions in the newly established business can be independently substantiated.
Lost profit claims are not formula-driven computations. Economic loss claims involve the selection of business, economic, and financial assumptions that may significantly impact a final loss claim amount. Subjecting an economic loss claim to forensic accounting scrutiny can assist in resolving an economic loss claim presented to an insurance company or to an opposing party.
By Antonio L. Argiz, CPA/ABV/CFF, ASA, CVA, CFE and Marta Alfonso, CPA/CFF, JD
Morrison, Brown, Argiz & Farra, LLP
1001 Brickell Bay Drive, 9th Floor
Miami, FL 33131
South Florida Legal Guide 2011 Edition