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Combining Elements of the Fraud Triangle and Professional Skepticism in the Valuation of Lost Profits

Forensic accountants are frequently engaged to review business interruption or lost profits claims for insurance matters. Theoretically, the objective of business interruption insurance is to return the claimant to the position that they would have otherwise experienced had a loss not occurred. Generally, insurance policies consider the following methodology in order to quantify a loss; an insured is entitled to net income (loss) plus continuing expenses for the length of the loss period. This concept was derived from an older model where lost profits recovery was based on gross earnings less discontinued expenses. Forensic accountants in general use one or more of the following methodologies for calculating business interruption losses; 1) The Before-and-After Method, 2) The Comparable Method (or yardstick method), 3) The But For Method, 4) The Breach of Contract Method. When applying the methodological considerations in the application of forensic accounting techniques such the calculation of lost profits, a concurrent concern is to additionally include other qualitative variables that may be important to avoid misspecification of the value of the loss; elements of the fraud triangle and professional skepticism. Business interruption insurance is intended to restore the claimant, not reward them with excess reimbursement.