Damages for lost profits are notoriously difficult to prove. Judges are often skeptical about projections of profits that were not actually earned. Still, expert evidence can overcome judicial skepticism if the expert bases an opinion about lost profits on an accepted methodology and applies that methodology to the evidence in the case. The California Court of Appeals recently reversed a trial court’s decision that an expert’s opinion about lost profits was too speculative to be admissible.

Two Conflicting Contracts

Jillian Michaels and Empowered Media, LLC sued their law firm, Greenberg Traurig, and one of its partners, David Markman, for professional malpractice. Michaels is a “fitness celebrity” who appeared on the television show, The Biggest Loser.

Michaels co-owns Empowered Media. Michaels and Empowered Media hired Markman to negotiate two contracts. The first addressed Michaels’ compensation from the company that produces The Biggest Loser. That contract contained several restrictions on Michaels’ ability to participate in commercials.

The second contract was with a company called ThinCare that makes nutraceutical products. The contract addressed branding and promotional services to be provided by Michaels.

In the ThinCare contract, Empowered warranted that it had the sole and exclusive right to control Michaels’ participation in commercials. That warranty was inconsistent with the contract that allowed the production company to restrict her participation in commercials.

Michaels’ Litigation with ThinCare

Over the course of time, ThinCare paid Empowered more than $5 million in royalties. ThinCare eventually sued Empowered for making a false representation that induced it to enter into the contract with Empowered.

Empowered settled the ThinCare lawsuit by paying $2.2 million to ThinCare and by foregoing payment of another $1.3 million that ThinCare was holding in escrow. The agreement also required Michaels to continue promoting ThinCare products for a period of time without being paid a royalty.

Empowered and Michaels sued their lawyers. They based the lawsuit on several legal theories, including professional malpractice for negotiating a warranty in one contract that it knew was inconsistent with the terms of the second contract.

Empowered tried to prove damages with the report of an expert witness who computed Michaels’ lost profits. The court held that the expert’s conclusions were speculative and therefore inadmissible. The court later entered summary judgment against Empowered and Michaels on the ground that they could not prove damages. They appealed the judgment.

Lost Profits

In California, an established business can recover lost profits that can be ascertained with reasonable certainty. It is reasonable to ascertain lost profits by examining the business’ past performance to extrapolate potential future earnings.

Empowered relied on an expert report prepared by Sidney Blum, a certified public accountant, to establish lost profits. Blum treated Empowered and Michaels as an established business because Michaels promoted ThinCare products for 16 months before she was sued.

Blum considered the impact on profits of class action complaints that had been filed against ThinCare and Michaels alleging false advertising. Those complaints were filed about a year before ThinCare sued Empowered and were dismissed prior to the settlement of ThinCare’s lawsuit against Empowered.

Blum applied the “Before and After” method of calculating lost profits. He considered the profits that Empowered would have received if the contract dispute had not arisen and reduced those profits by actual benefits that Empowered received.

During the Before period of the analysis, from the commencement of the agreement until ThinCare sued Empowered and Michaels, Empowered received monthly royalties of about $350,000. Blum concluded that the royalties would have been higher if the class action litigation had not harmed ThinCare’s reputation.

Blum divided the After period into two parts. During the first part, extending to the scheduled end of Empowered’s contract, Blum calculated lost profits of more than $7 million. During the second part, to the end of the period during which Michaels was required to promote ThinCare products pursuant to the agreement to settle ThinCare’s lawsuit against her, Blum calculated lost profits of more than $11 million. Blum performed that calculation by multiplying $350,000 by the number of months in each period.

Admissibility of Expert Report

The trial judge excluded Blum’s report on the ground that it was “entirely too speculative” because it was based on assumptions that were unsupported by evidence. Those would be reasonable grounds for excluding an expert report if they were accurate observations. The California Court of Appeals disagreed with the judge’s view of Blum’s assumptions.

The appellate court identified four assumptions that were critical to Blum’s analysis: (1) ThinCare product sales are a direct result of marketing; (2) ThinCare’s profits (and thus royalties paid to Empowered) depended on Michaels’ involvement with marketing; (3) Michaels was prevented from marketing because of ThinCare’s lawsuit against her; and (4) if ThinCare had not sued Michaels and Empowered, Michaels would have continued to market ThinCare products into the “After” period. Whether the lawsuit resulted from Markman’s negligence was a separate question.

Markman persuaded the trial judge that Michaels stopped promoting ThinCare before ThinCare sued her. Markman contended that Michaels was worried about her reputation, given the class action lawsuit alleging that ThinCare had engaged in false advertising. Markman based that argument on documents expressing Michaels’ dissatisfaction with certain aspects of her relationship with ThinCare.

The appellate court faulted the trial judge for finding that Michael’s decision to stop marketing ThinCare products before ThinCare sued her was undisputed. The judge disregarded Michaels’ declaration that she “continued to actively promote” ThinCare products before the ThinCare lawsuit. Michaels stated that she “limited [her] promotional and marketing activity during the class action lawsuits” but “would have continued to meet [her] marketing and promotional obligations under the contract” after the class actions were dismissed if she had not been sued by ThinCare.

While Markman objected that Michaels’ declaration was “self-serving,” truthful statements are often self-serving. The appellate court noted that all evidence submitted in a case serves the interests of a party. Since it is up to the jury to decide whether evidence is credible, evidence cannot be discounted on summary judgment simply because a judge regards it as self-serving.

Other evidence supported Michaels’ claim that she continued to market ThinCare’s products after it was sued for false advertising. The appellate court concluded that the trial judge improperly weighed the evidence and found Markman’s to be more convincing. Juries, not judges, weigh evidence.

The appellate court agreed that lost profits during the second part of the After period were speculative. Michaels stated that she would have agreed to extend her contract to promote ThinCare’s products if ThinCare had not sued her, but there was no evidence — beyond the settlement agreement that required Michaels to promote the products without earning a royalty — that the contract would actually have been extended. Blum’s assumption that Michaels would have continued to promote ThinCare’s products based on a contract extension was too speculative to support a claim for lost profits.

Since there was evidentiary support for a part of Blum’s damages calculation, that part of Blum’s expert opinion was admissible. The judge therefore erred by granting summary judgment based on a failure to establish damages.