I once heard a veteran of the complex commercial litigation wars describe the process as follows. “Each side hires an expert,” he said, “and the preponderance of perjury prevails.”

A cynical – if funny and unfortunately too-often-accurate – view.  Recognizing that expert witnesses are, in essence, paid advocates, the Supreme Court formulated the Daubert and Kumho Tire “gatekeeping” tests awhile back to try to keep some integrity in the process of expert testimony.  In insurance coverage, one area where we frequently deal with experts is business interruption. Business interruption is best thought of as “but for” insurance. That is to say, “but for” the incident, the policyholder would have made X dollars in revenue during the period of restoration, which represents the covered BI loss. By its very nature, this problem requires projections of anticipated revenue and expenses, and comparison of such projections to actual past experience. Being an inexact science, there’s much opportunity for mischief on both sides.

In Manpower, Inc. v. Insurance Company of the State of Pennsylvania, the Seventh Circuit recently dealt with a case in which the trial judge struck the policyholder’s damages testimony as to business interruption, and then entered summary judgment in favor of the carrier because, without an expert, the policyholder had no way of proving its loss. The case dealt with a building collapse that left Manpower’s French subsidiary unable to access office space in Paris for more than a year.

Manpower’s accounting expert, Eric Sullivan, opined that the total loss for business interruption and extra expense was €7,503,576, including an estimated business interruption loss of €5,125,830. Sullivan used an estimated growth rate of 7.76% to project total revenues. He did that by comparing the total revenues from January to May 2006 – the five month period preceding the collapse – to total revenues earned in the same five-month period in the year 2005.

The insurance company argued that Sullivan’s chosen growth rate didn’t accurately represent Manpower’s historical performance, which included a negative average annual growth rate of 4.79% during the period of 2003 to 2009, and a 3.8% growth rate for the period January 2005 to May 2006. Sullivan explained that, although he reviewed economic data going back to 2003, he used a shorter period from which to extrapolate the growth rate because (according to Manpower’s management) a recent corporate acquisition, the enactment of new corporate policies, and the installation of new managers had turned the company around by the end of 2005.

The trial court agreed with the insurance company, finding Sullivan’s methodology to have been “unreliable” under Daubert and Kumho Tire, and therefore striking it – but the appeals court reversed on that issue. 

Finding that the trial court had misinterpreted its role as “gatekeeper” of potential expert evidence, and instead improperly inserted itself as “decider” of that evidence, the appeals panel wrote as follows:

“Sullivan consulted the policy to ascertain the methodology for calculating the business interruption loss, and the district court expressly concluded that his equation was consistent with the policy’s mandate. And in selecting the first variable—[the policyholder’s] projected revenue if the collapse had not occurred—Sullivan utilized growth-rate extrapolation, which the district court determined was sound…Having drawn those conclusions, the district court’s assessment of the reliability of the methodology ought to have ceased…Instead, the district court drilled down to a third level in order to assess the quality of the data inputs Sullivan selected in employing the growth rate extrapolation methodology…The district court thought Sullivan should have selected different data, covering a longer period, as the base for his projection, but the selection of data inputs to employ in a model is a question separate from the reliability of the methodology reflected in the model itself [and is a matter for the jury].” (Emphasis supplied.)

A few observations about this: 

First, business interruption claims are inherently scary for policyholder counsel, because they usually turn upon a single point of failure (which is something I never want to have in a trial if I can help it) – namely, the soundness of expert testimony. Without accounting and financial projections, it’s difficult if not impossible to prove a BI case. It’s advisable, therefore, to tell your expert to be as conservative as possible.

Second, insurance companies are forever trying to avoid BI losses on the ground that projections of future earnings are “speculative,” as the carrier did here.  (We have one BI case in the office, for example, involving a fire, in which the carrier is insisting that we identify customers who didn’t buy from our client during the period of restoration. This, of course, is absurd. By analogy, if a supermarket burned down, could the carrier legitimately ask what customers failed to buy groceries there during the period of restoration?) Sullivan had a reasonable explanation for why he used a relatively short period of time upon which to base his data projections – namely, changes in the company had positioned it for better growth. Insurance companies hate that sort of thing, but under the language of Daubert and Kumho Tire, the appeals court correctly decided that the credibility of the data was an issue for the jury.

Finally, I note that even though the policyholder won the damages argument (at least for now), it lost the war based on an “other insurance” issue (at least for now) – namely, that a “local” French policy with lower limits had to be exhausted before the master policy could be tapped anyway.

You can read the complete decision here