Covid-19 impact on damages – looking for reasonable certainty in uncertain times

5th June 2020


The dislocation caused by the coronavirus pandemic is not only spawning claims but also additional complexity in calculations of damages and valuations.

HKA convened an expert panel of Partners from Australia, the UK and the US to consider the financial implications of Covid-19. The webinar – which attracted more than 400 attendees – focussed on: forecasting future profits and cash flows, valuations amid market volatility, and bankruptcies.

As noted by webinar moderator and UK Partner David Saunders, while certainty could never be complete, the panel’s insights pointed to ways of navigating the uncertainty, as well as changes in the experts’ role.


Business disruption caused by Covid control measures would not only lead directly to claims, pre-existing claims that straddle the pandemic would also be impacted, Jonathan Humphrey of HKA Australia explained. These effects had to be factored into forecasts of profits and cash flow, already subject to inherent uncertainties pre-Covid.

The assessment of loss that underlies most claims for damages involved modelling ‘actual’ versus ‘but for’ scenarios – what actually happened in the business compared with that would have occurred but for the breach.

With business interruption insurance claims, quantification was comparatively straightforward. The first question was whether the event was covered or not by the terms of the policy. For example, a restaurateur in France recently won a claim against AXA for Covid-related losses as there was no term to exclude disruption not caused by physical damage to the premises. The insurer has said that its liability is limited to just 200 similar insurance contracts.

As Covid is the insured event, ‘but for’ assessments for insurance claims will be measured by historical trading and pre-Covid expectations, Covid issues could be ignored. Calculating  the likely ‘actual’ scenario is more complicated. However, the insurance industry’s release of staged payments and examination of losses as they crystallise, would limit the impact.

Measuring damages  for breach of contract claims – putting aside any force majeure argument – is going to be more challenging. “There’s always been an element of conjecture in the calculation of future cash flows and profits – which increases with the level of uncertainty.

“Is it possible to get reasonable certainty?” Jonathan asked. The obvious approach was to delay the claim. The later it was made, the more information that would be available to assess the effects of the pandemic on a business and therefore the level of uncertainty would decrease, improving the accuracy of forecasting.

For claims that were current, or had to be advanced, Jonathan considered each scenario in turn.

The ‘actual’ position would change continually as restrictions on business and lockdowns were tightened or eased, making it very difficult to predict how a business would ultimately be effected Amid the heightened uncertainty post-Covid, one of the questions is “how do you know that business has recovered to some kind of new normal? Business may not return to previous levels.”

With the ‘but for’ scenario, you had to consider if there was a breach and whether it resulted in loss due to Covid-19. For example, if a supplier failed to supply goods while the client’s business was closed, there was no loss, at least for that period until the business re-opened.

Modelling could no longer rely wholly on historical performance and forecasts. Where a claim period straddled the onset of Covid, the ongoing nature of the pandemic meant it remained unclear when loss periods would end and the dust settled on a new normal. For example, with the March 2019 grounding of the Boeing 737 Max aircraft, there could be no loss for the period when airlines could not fly due to lockdowns.

A parallel example, cited by US Partner David Bones, involved losses incurred by an exploration company coinciding with the 2015/16 oil price slump. Its fleet of Airbus heavy helicopters was grounded for a year while two crashes overseas were investigated. The loss of transport for crews impacted production, but this was mitigated by a sharp decline in demand. Damages were still incurred but, instead of the loss of contracts, this was quantified in terms of the reduced value of these assets and ability to sell them to free up financial resources.

With Covid, Jonathan also advised bearing in mind the possibility of multiple breaches. Their impacts needed to be isolated in building each claim. Changes in operating costs had to be taken into account too. Social distancing, for example, might increase a manufacturer’s costs of production.

Jonathan outlined some approaches to improving the accuracy of forecasting amid the uncertainty.

“The world will change as your claim gets closer to a hearing,” he stressed. By including a range of scenarios based on different assumptions, the court or tribunal could select the most relevant when assessing damages.

It should also be possible to update damages claims immediately prior to hearings. For example, in New South Wales restaurants were closed for a period, then allowed to admit up to 10 people at a time, before the limit rises to 50 on June 1st. “So future losses they face will have changed significantly over the last three weeks.”

Calculations could also be made post-judgement or award. “It’s not uncommon for a court or tribunal to decide the basis on which an award should be made, and then ask independent experts to re-calculate losses, taking into account what’s known at that time.”

Asked by moderator David Saunders about the impact of government support, Jonathan pointed out that credit had to be given for tax breaks or job retention allowances, although the eligibility to such schemes could change between the “actual” and “but for” scenarios. For business interruption claims, where Covid is the insured event, the effects of such schemes would not be included in the ‘but for’ scenario.

Another question concerned the impact of a breach pre-Covid. When estimating loss of profit, as the measure of damages is the difference between ‘actual’ and ‘but for’ performance, hindsight had to be used to understand the actual effect, Jonathan replied, pointing out the contrast with valuations, where one tended to look at the impact at the date of breach without using hindsight.


The importance of experience and judgment when undertaking valuations has only increased amid the complications thrown up by the Covid crisis, according to UK Partner Colin Johnson.

Deeper analysis would be required to decipher which changes wrought by the pandemic are relevant, short or long-term, and how they impact individual valuations. “This is going to get very granular and come down to looking at specifics, because you’re trying to project forward, but largely based on past information.”

When the future no longer looked like the past, you needed alternatives, Colin said, turning to the key valuation methods. With discounted cash flow, again, assumptions were at the heart of the calculation and different scenarios could be projected.

Discount rates were going to need to be re-evaluated, but how?  A valuer could adjust cash flows and discount rates to take account of risk, but the standard approach was to account for risk in one but not both. In terms of Covid, that might mean making cash flow adjustments for the short term – this year and next. The risk of the disease re-emerging and future lockdowns may be better reflected in the discount rate.

Competing forces were at work on discount rates. Risk-free rates had been dropping anyway since at least 2011 and even more over recent months. Lower inflation expectations would also move nominal discount rates lower. On the other hand, higher overall risk could move equity risk premiums to the upper end of bands.

Another element to consider was sector and company-specific risk. “We really need to see how a particular company has been impacted.” In the case of an oil exploration company, for example, the forced closure of a site would have a short-term impact in lost production. But it was also necessary to work through longer-term impacts on the field itself and ability to deliver in the future.

Turning to finance availability, Colin noted that where companies were in danger of bankruptcy, realistic valuations might need to exclude future cashflows. Adjustments in valuations also had to be made for taxation, in two ways. The effective rate a company was paying would be lower if current losses could be set against future tax liabilities. And in the longer term, governments might change tax regimes which could have  implications on the value of companies.

Turning to market multiples and company comparables – the other main valuation method – Colin advised extreme caution. “Be very wary of current multiples, which are high and volatile, and of what earnings you are applying them against.” He also stressed that the varying exposure of comparable companies to Covid effects also had to be analysed in an equivalent manner.

These impacts would differ by location, and ranged from the local – the extent and duration of restrictions in a state or region – to the sectoral and geopolitical. Jonathan noted how deteriorating Sino-Australian relations over an investigation of the coronavirus outbreak had led to an 80% Chinese tariff on barley worth $1bn in exports each year.

Colin also predicted a greater emphasis in valuations not just on companies’ susceptibility to impacts on their marketplace but also to impacts in their supply chains.

Asked by David Saunders about the reliability of historical data, Colin stressed that it would very much depend on the particular case. For example, the past production trend for a manufacturer might mean little if it was part of the supply chain for trucks or automobiles, one of the sectors most heavily downgraded by ratings agencies.

More relevant would be future projected demand, the company’s market share and how it might be retained. In some sectors – say, food retail – past performance that was relatively stable over time would be a more reliable indicator for the future after Covid than in others that have changed substantially.


US Partner David Bones surveyed the corporate landscape of record debt – $70 trillion globally, including $10 trillion in the US, where just over 30% was trading at distressed levels.

High-profile bankruptcy filings by the likes of JC Penney, Hertz and Virgin Australia were precursors of more to come, especially among oil producers, retailers, airlines and even in healthcare. Elective surgery and speciality clinics that were key profit centres for private healthcare providers had been suspended. HKA was already working with hospitals analysing Covid impacts and claims for reimbursement under federal laws.

“There’s an expectation of an awful lot of bankruptcy filings coming down the line.” Almost $15 trillion of economic stimulus from governments around the world was holding back the “avalanche”. This liquidity cushion was keeping businesses afloat and might allow industries an orderly transition.

Banks were scrambling to re-deploy experts in distressed assets who’d moved to other divisions in the boom times. The impact of Covid would also expose companies whose struggles had been masked by buoyant macroeconomics. Similarly, fraud and embezzlement has come to light during financial shocks like this. “We expect to see a significant increase in our forensic investigations and analysis.”

In times of past macro-economic distress, we have seen an increase in disputes involving allegations of fraudulent transfers and preference claims.  Fraudulent transfer claims generally arises when a company that is insolvent, or near insolvency, transfers assets to other entities for less than reasonably equivalent value, resulting in a loss of assets that should have been available to pay creditors or other stakeholders.  Preference claims generally relate to claims of paying stakeholders in a manner that would not have been paid in a bankruptcy proceeding (e.g. paying an unsecured creditor before a secured creditor) while insolvent. These types of macro-economic crises add another component of fiduciary duty to boards and company management. “Are funds being moved to pay shareholder or unsecured loans ahead of secured creditors? We expect to see a lot of challenges to such repayments and dividends as well as valuation and solvency dates.”

Valuation dates are likely to be very important when assessing allegations of fraudulent transfers. For transfers and payments over recent months, Covid’s economic impacts may need to be taken into account. Was the company already insolvent before a transfer was made or did it enter the zone of insolvency as a result of the transaction?  For transfers that occurred prior to Covid, the financial impacts of Covid may not be included if they were not known or knowable at the valuation date. 

Recordkeeping is almost always a key issue in these types of claims, as is typically the case in most disputes. It is generally prudent to document the reasons for transfers to insiders and related entities so as to substantiate what value was received and, that creditors were not harmed. “We expect an awful lot of scrutiny on insider transactions, co-mingling of funds, and related party transactions that can ultimately result in significant losses to companies/insiders and recoveries from creditors.” It is generally a good idea for companies to consult counsel on such transfers.

In the case of valuations too, recordkeeping could be decisive in differentiating between a contractual breach, a Covid-related event or the results of actions by government, Colin added. For example, a company might lose orders due to Covid or a supplier’s sub-standard quality. “You need to make sure you keep hold of evidence to show it was due to supplier failure rather than the marketplace. And gather it early on when you have the people with the necessary knowledge in place.”

Summing up, David Saunders observed that the complications raised by Covid could be refined to reach a reasonable level of certainty. But what changes would that require of the experts?

 “A lot of our work will be potentially more complex, because if you can’t rely on historical data, you have to go back and revisit or adjust,” Colin stated.

In the run-up to trials, new information and changes would have to be considered, David Bones pointed out. “We can still establish reasonable certainty within a range of outcomes, and disclose damages methodologies and frameworks, but may have to narrow those outcomes as we get closer to trial.”

This is likely to involve joint statements on behalf of both parties as well as supplemental reports, Jonathan agreed. “There will be more reports issued at the door of the hearing room and probably more interaction with the other side’s experts as well.”

Watch the on demand webinar at Lexology:

David Saunders, Partner

Jonathan Humphrey, Partner

Colin Johnson, Partner

David Bones, Partner

HKA convened an expert panel of Partners from Australia, the UK and the US to consider the financial implications of Covid-19.

The webinar focussed on forecasting future profits and cash flows, valuations amid market volatility, and bankruptcies.”

This publication presents the views, thoughts or opinions of the author and not necessarily those of HKA. Whilst we take every care to ensure the accuracy of this information at the time of publication, the content is not intended to deal with all aspects of the subject referred to, should not be relied upon and does not constitute advice of any kind. This publication is protected by copyright © 2024 HKA Global Ltd.


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