Source: s3://data.kl3m.ai/documents/govinfo/USCOURTS/USCOURTS-azd-2_09-cv-00414/USCOURTS-azd-2_09-cv-00414-5/pdf.json

Nature of Suit Code: 190
Nature of Suit: Other Contract Actions
Cause of Action: 28:1332 Diversity-Breach of Contract

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IN THE UNITED STATES DISTRICT COURT

FOR THE DISTRICT OF ARIZONA

The Armored Group, LLC, a Nevada

Limited Liability Company, 

Plaintiff, 

vs.

Supr eme Corpora tion, a Texas

corporation; and Supreme Corporation of

Texas, a Texas corporation, 

Defendants. 

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No. CV09-414-PHX-NVW

ORDER AND OPINION

[Re: Motion at Docket 188]

Before the Court is Defendants’ Motion to Exclude Plaintiff’s Expert Michael A.

Fahlman’s Lost Profits Damages Testimony. (Doc. 188.) The Court will deny the motion.

Throughout this order, the Court refers to Plaintiff as “Armored Group” and to

Defendants collectively as “Supreme.” The Court recognizes that some of Defendants’

previous arguments have turned on separate treatment for Supreme Corporation and Supreme

Corporation of Texas, and Defendants continue to assert that distinction here. The Court’s

use of “Supreme” is for convenience only and is not intended to state a factual or legal

conclusion about the relationship between the two Supreme entities or either entity’s

relationship to Armored Group.

I. Legal Standard

When one party challenges another’s evidence, including expert evidence, Federal

Rule of Evidence 104(a) requires this Court to determine, by a preponderance of proof, that

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the evidence is admissible. Daubert v. Merrell Dow Pharms., Inc., 509 U.S. 579, 592–93 &

n.10 (1993). Daubert and Kumho Tire establish that district courts must “ensure that any and

all [expert] testimony . . . is not only relevant, but reliable.” Daubert, 509 U. S. at 589;

Kumho Tire Co. v. Carmichael, 526 U.S. 137, 147 (1999). This does not mean that the party

proffering expert testimony must “prove their case twice — they do not have to demonstrate

to the judge by a preponderance of the evidence that the assessments of their experts are

correct, they only have to demonstrate by a preponderance of evidence that their [experts’]

opinions are reliable.” In re Paoli R.R. Yard PCB Litigation, 35 F.3d 717, 744 (3d Cir. 1994)

(emphasis in original).

Federal Rule of Evidence 702, amended in 2000 to reflect the requirements of

Daubert and Kumho Tire, describes the issues a court must consider when evaluating the

reliability of challenged expert testimony:

If scientific, technical, or other specialized knowledge will assist

the trier of fact to understand the evidence or to determine a fact

in issue, a witness qualified as an expert by knowledge, skill,

experience, training, or education, may testify thereto in the

form of an opinion or otherwise, if (1) the testimony is based

upon sufficient facts or data, (2) the testimony is the product of

reliable principles and methods, and (3) the witness has applied

the principles and methods reliably to the facts of the case.

But again, “the test . . . is not the correctness of the expert’s conclusions but the soundness

of his methodology.” Daubert v. Merrell Dow Pharmaceuticals, Inc., 43 F.3d 1311, 1318

(9th Cir. 1995) (remand decision). “Vigorous cross-examination, presentation of contrary

evidence, and careful instruction on the burden of proof are the traditional and appropriate

means of attacking shaky but admissible evidence . . . [that otherwise] meets the standards

of Rule 702.” Daubert, 509 U.S. at 596.

II. Background

A. The State Department Dispute

Armored Group and Supreme are both in the business of specialized vehicles such as

armored cars. From 1996 through the end of 2006, Armored Group was Supreme’s exclusive

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The record does not disclose why Armored Group can recover commissions on 1

estimated future sales, as opposed to actual future sales as they happen. Cf. County of La Paz

v. Yakima Compost Co., Inc., 224 Ariz. 590, 610, ¶ 62, 233 P.3d 1169, 1189 (Ct. App. 2010)

(“The nonbreaching party may . . . receive damages for the breaching party’s failure to

perform one part of the contract and also attain specific performance of the contract as a

whole.”). Awarding future lost profits before the contract expires could give Armored Group

more than the benefit of its bargain. But Supreme has not objected on these grounds.

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distributor. During those years, Supreme and Armored Group operated under a series of

written contracts through which Supreme agreed to pay Armored Group a 10% commission

on armored vehicles and related products sold by Armored Group on behalf of Supreme.

The parties’ final formal contract expired at the end of 2006, but they allegedly

continued to do “business as usual” under an oral agreement and/or a less formal written

contract through July 2007. At that point, Supreme formally terminated its relationship with

Armored Group. The following month, the U.S. State Department awarded an armored

vehicle contract to Supreme which could last for as long as five years (five one-year options)

and pay as much as $98 million, although the contract guaranteed no minimum number of

sales.

Armored Group claims that it had been working since 2003 to bring Supreme and the

State Department together. Armored Group believes that Supreme ended its relationship

with Armored Group because Supreme knew that the State Department contract was

forthcoming and Supreme wanted to avoid paying commissions on those sales.

B. Armored Group’s Damages Expert

Armored Group hired an expert, Michael Falman, to calculate its damages. (See Doc.

201 at 3 (Fahlman’s expert report) (filed under seal).) Fahlman conducted what amounted

to a lost profits analysis. However, because Armored Group’s lost profits (i.e., its

commissions) are a function of Supreme’s sales, Fahlman’s analysis focused almost entirely

on Supreme’s past and predicted future performance under the State Department contract,

estimating total contract earnings of about $111 million. At the time Fahlman submitted his 1

report (May 2010), Supreme had apparently already earned almost $31 million under the

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contract, and Fahlman estimated that Supreme would earn another $54 million before the

contract’s five-year term expired, for a total of $85 million. Fahlman also calculated a

hypothetical sixth year in which he estimated that Supreme would earn another $26 million,

for a total of $111 million. Fahlman justified this sixth year through snippets of testimony

in certain depositions, as well as through an analysis of numerous State Department contracts

supposedly showing that the State Department, with reasonable frequency, extends its

procurement contracts for at least one year.

Fahlman calculated most of his dollar figures assuming that Supreme’s sales to the

State Department would grow 22.7% annually. Fahlman says that he chose 22.7% to err on

the conservative side. His calculations showed that the actual growth rate from the first to

the second year of Supreme’s contract had been 124%, the actual growth rate from the

second to the third year was 42%, and that the State Department’s overall spending on

armored vehicles grew at about 27% since the Supreme contract began. Fahlman derived his

22.7% growth rate by examining the State Department’s armored vehicle spending from

2002 through 2007 (the five years preceding the Supreme contract). Fahlman, however, did

not apply this growth rate to his hypothetical sixth contract year. Rather, he assumed that

sales would remain flat between years five and six.

Fahlman’s calculations accounted for the likelihood of contract termination.

Government procurement contracts (including Supreme’s State Department contract) contain

a “termination for convenience” clause, allowing the Government to end the relationship for

almost any reason. Fahlman’s research revealed that the Government exercises this option

only about 0.26% of the time. Fahlman therefore reduced its earnings calculations by 0.26%.

Fahlman also applied a discount rate of 12.7% based on his analysis of Supreme’s financial

stability.

III. Analysis

A. The Bottom Line Calculation

Supreme argues that Fahlman’s methodology cannot possibly be reliable because it

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arrives at a bottom line estimate that Supreme will earn $111 million under the State

Department contract — $13 million more than the contract’s $98 million maximum value.

But Supreme ignores how Fahlman arrived at this number. Fahlman first accounted for

Supreme’s actual earnings to date, and then added his estimate of how much more Supreme

would earn through the contract’s fifth year. That amounted to approximately $85 million

— $13 million less than the contract’s maximum value. Fahlman then included a separate

$26 million line item for his hypothetical sixth year, bringing total earnings to $111 million.

There is nothing unsound about this methodology.

Supreme argues, however, that the very possibility of a sixth year is spurious. But this

is not an issue of admissibility or reliability. Fahlman did not make an expert conclusion

about whether a sixth year would happen. He instead gathered evidence which, in his mind,

reasonably supported the possibility of a sixth year, and then estimated the value of that year.

Whether a sixth year is likely or even possible remains an issue of fact for the jury, if

Armored Group chooses to pursue it at trial. Given that Fahlman offered his year six

estimate as a separate line item — easily disregarded if a jury concludes that there would be

no year six — the Court sees nothing inadmissible or unreliable in Fahlman’s calculations.

Cf. County of La Paz, 224 Ariz. at 608, ¶ 54, 233 P.3d at 1187 (“[The expert] did not opine

on whether Los Angeles would renew the contract but merely calculated damages under the

assumption it would do so; if the jury rejected this notion, it could adjust the number.”).

B. Estimated Growth Rate & State Department Expectations

Supreme next argues that Fahlman’s 22.7% growth rate is based on insufficient facts

or data because Fahlman did not consider deposition testimony from State Department

employees about the State Department’s expectations for the Supreme contract. Supreme

specifically points to the testimony of Ricky Motley, a State Department employee familiar

with the Supreme contract. Motley testified that the State Department picked the $98 million

contract ceiling by roughly doubling what it thought it would spend. Motley further testified

that he did not expect the State Department to spend more than 40–50% of the total contract

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value, and that he believed Supreme was on pace for no more than that. Without considering

this testimony, Supreme argues, Fahlman’s opinions are not reliable.

Fahlman admitted in his deposition that he did not read any State Department

depositions, and his report contains nothing about Motley’s expectations. Accounting for

such expectations — at least as an alternative scenario — may have been helpful, but that

does not mean that Fahlman’s opinions are unreliable. They are simply subject to

impeachment. Accordingly, the Court will not exclude Fahlman’s testimony on these

grounds.

C. Avoided Costs

The parties agree that the basic formula for calculating lost profit damages is gross

profits minus the costs the plaintiff would have incurred to generate those profits. The latter

variable is sometimes referred to as “avoided costs” because the plaintiff avoided having to

spend that money due to the defendant’s profit-stealing conduct. Here, Supreme argues that

Fahlman’s calculations are unreliable because he accounted for little or no avoided costs.

Supreme emphasizes that Fahlman, at his deposition, admitted he had not reviewed Armored

Group’s balance sheets, income statements, sales figures, profit margins, customer lists, and

so forth. Supreme believes that Fahlman’s conclusions cannot be reliable if he did not

account for such information and use it to calculate avoided costs.

In a typical lost profits case, Supreme would have a colorable argument. But this is

not a typical case. A lost profits analysis usually examines the sales the plaintiff would have

made but for the defendant’s wrongful conduct. Here, however, Armored Group argues that

it already made the sale — it just hasn’t been paid for it. Armored Group therefore avoided

no costs, but rather incurred costs allegedly to bring Supreme and the State Department

together, and now Armored Group seeks compensation for its efforts. The size of Armored

Group’s compensation — supposedly a 10% commission — does not turn on Armored

Group’s financial status. Accordingly, the Court will not exclude Fahlman’s opinions on this

basis.

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Nor will the Court exclude Fahlman’s opinions for failure to consider potential

commissions that Armored Group may be required to pay to its own sales associates.

Supreme alludes to such commissions (Doc. 188 at 12 n.3) but does not elaborate.

Commissions that Armored Group must pay to its own personnel are not avoided costs unless

those to whom commissions are owed have waived that right or agreed to accept less. The

Court has seen no evidence of such agreements, nor would they provide a reason to exclude

Fahlman’s testimony.

D. “Reasonable Certainty” Under Arizona Law

Supreme claims that Fahlman’s report does not create the reasonable certainty that

Arizona requires when seeking future lost profits damages. See, e.g., Gilmore v. Cohen, 95

Ariz. 34, 36, 386 P.2d 81, 82 (1963) (“The burden [is] on the plaintiffs to show the amount

of their damages with reasonable certainty. . . . The requirement of ‘reasonable certainty’ in

establishing the amount of damages applies with added force where a loss of future profits

is alleged.”). This is not a Rule 702 argument, and it is otherwise premature.

The reasonable certainty standard encompasses all of the evidence presented at trial.

See, e.g., Felder v. Physiotherapy Assocs., 215 Ariz. 154, 165, 158 P.3d 877, 888 (Ct. App.

2007) (affirming a jury’s damages award based on a broad range of evidence). Nothing in

the record indicates that Fahlman will be the only trial witness to address damages.

Therefore, this Court cannot determine whether the evidence as a whole provides the

reasonable certainty required for a jury to award future lost profits damages.

IV. Order

For the reasons set out above, it is therefore ORDERED that Defendants’ Motion to

Exclude Plaintiff’s Expert Michael A. Fahlman’s Lost Profits Damages Testimony (Doc.

188) is DENIED.

DATED this 15th day of November 2010.

/S/ JOHN W. SEDWICK

UNITED STATES DISTRICT JUDGE

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