Quantifying Business Losses:

There are a number of ways in which a business can be impacted by an expropriation event. A business may be terminated, may be forced to re-locate, or, if the business is able to continue operating at the location, it may suffer income losses as a result of the expropriation-related events.

This article identifies various considerations when dealing with an income loss related to an expropriation matter. 

What is an Income Loss

An income loss is the estimated reduction in the income a business would likely have earned if the expropriation-related event had not occurred. 

Examples of events that may result in an income loss to a business may include a road closure, partial taking, temporary easement over the property, or any other event that may unjustly limit the business’ operations and ability to generate normal levels of income. 

There are two ways in which the income of a business can be negatively impacted: a decrease in revenues, or an increase in expenses. Both of these events will result in a lower income, and, therefore, an income loss to the business. 

We can demonstrate a possible impact on the income of a business through a simplified example of impact on an income statement, as displayed in Table 1 below: 

Table 1

Considerations for Estimating an Income Loss

How is an income loss determined? The main considerations in estimating an income loss are as follows:

1. Time period of the loss
2. Loss of revenue
3. Saved expenses
4. Incremental expenses incurred

Time Period of the Loss

The time period analyzed for an income loss may determine various other aspects of the assessment. 

Considerations for the time period that may impact the assessment could be:

• Is it a short period (1 month) or a long period (several years)
• Is the income loss intermittent, or is it one continual loss period
• Is there a permanent loss directly attributed to the expropriation-related event
• Lease agreement in effect
• Legal issues that may impact the time period of the loss

The duration of the disruption may also influence the information used to estimate the loss, specifically projecting the revenue loss as discussed below. 

Revenue Loss

The revenue loss is estimated as:

• Projected revenue
• Less: Actual revenue (if applicable)

Projecting the anticipated revenue of a business is one of the most critical aspects of determining an income loss. This process can be relatively straightforward or, in some circumstances, more complex.

Considerations in projecting the revenue of a business may include, but are not limited to:

• The nature and age of the business
• How the business earns its revenue
• Historical revenue trends and seasonality
• Budgets and forecasts of the business, prepared by management
• Industry trends
• Results from comparable, unaffected locations
• Changes in the industry or local market
• Other economic factors (i.e. COVID, trade relations)
• Time period of the expropriation-related event

The appropriate information to consider depends on the circumstances. 

For example, if road construction completely blocks access to a clothing retailer for one month, sales immediately before and after the closure and sales from the same period in previous years may provide a reasonable starting point.

A different approach may be required if construction affects the retailer intermittently for several years. Changes in fashion, competition, the local market and the economy may become increasingly important. Older sales results may no longer reflect what the business would likely have earned during the later part of the loss period.

Saved Expenses

When sales decline, a business may avoid costs that it would have otherwise incurred. These are commonly called saved or avoided expenses.

• A retailer may purchase less inventory.
• A restaurant may use fewer food supplies.
• Business may schedule fewer hourly employees.
• Utility or delivery costs may decline with reduced operations.
• Temporary or additional signage
• Customer communications or advertising
• Temporary premises
• Additional delivery or transportation costs
• Additional labour needed to work around the disruption

The most obvious aspect of saved expenses are variable expenses – expenses that vary with a dollar of revenue earned. 

Other expenses may continue even when revenue falls or the business is shut down. Rent, insurance, salaried payroll and certain utilities may remain payable. 

Payroll requires particular attention. The business may reduce employee hours, temporarily lay off staff or continue paying employees despite reduced operations.

The lease should also be reviewed. Rent may continue unchanged, or the landlord may provide a temporary rent reduction. Any rent savings should be supported by the lease agreement, correspondence, or other documentation.

Other operation expenses need to be considered on a case by case basis. Utilities, advertising and promotion, and repairs and maintenance are examples of expenses that may or may not be impacted depending on the type of business, the time period of the estimate considered, and other factors. 

Incremental Expenses

In some instances, a business may incur additional expenses in order to attempt to maintain normal conditions, which consequently, negatively impact the income. 

Additional expenses are not present in every case. Where they are claimed, the business should demonstrate that they were reasonable, exceeded its normal costs, and resulted from the expropriation-related event.

Conclusion

Estimating an income loss is not a simple process. Consideration needs to be given to various aspects of the business’ operations and other relevant case facts in order to develop an estimate of income loss that properly reflects the impacts of an expropriation-related event.