Valuing damages for breach of oral contract poses problems

Kia v. Imaging Sciences Internat’l, 2010 WL 3516850 (E.D. Pa.)(Sept. 2, 2010)

This scene could have played out in countless startup companies—especially in the biotech sector—trying to recruit key personnel: During an employment interview in 2003, the plaintiff, a Ph.D. and one of the “world’s leading engineers” in digital imaging, rejected an initial salary offer of $108,000 as “way too low.” His interviewer, an owner of the defendant Imaging Sciences International, allegedly replied that the company didn’t have a product yet and it didn’t have a large revenue stream, but “as things pick up . . . your compensation would improve.”

To this, the plaintiff responded that he could “work with” the salary offer so long as there was a “guarantee” that he would be compensated, as the company moved forward, with equity vehicles such as a “golden parachute.” Although his interviewer didn’t promise him such, he supposedly assured his recruit of one thing: that he would be treated like a member of the senior management team and compensated “on par with the rest of us.”

The plaintiff joined the company as Chief Scientist and Director of Digital X-ray Development. Three years later, the company sold for $141 million, reaping each of the five owners more than $20 million. The company offered the plaintiff $50,000 from a discretionary bonus pool for employees—and he sued for breach of oral contract. Prior to trial, the defendants moved to exclude the plaintiff’s expert witness under Daubert, claiming his damages calculations were unreliable.

Expert creates two scenarios. In his report, the expert calculated damages under two alternative theories. The first was premised on the terms of the claimed oral contract and took the company’s value at the time the plaintiff was hired in 2003 ($2.5 million), subtracted its net sale proceeds in 2007, and then divided the result by six (five equity owners plus the plaintiff) to reach a total of approximately $20.2 million in damages.

The defendants argued that the expert was not qualified to render this opinion because 1) his expertise was executive compensation, not business valuation; 2) he did not calculate the company’s value; and 3) he failed to use any reliable methodology in calculating damages. In particular, the defendants disputed the expert’s starting value, claiming the $2.5 million figure was “meaningless” without further explanation of its specific nature—such as book value or market value—and that its application to the net sale proceeds created an “apples to oranges” comparison. The expert also failed to verify the start value, but simply “plucked” it from the consulting agreement, defendants said. The number wasn’t even accurate; it was merely a figure they “concocted” to compensate the consultant, and thus could not form the basis of a reliable opinion.

“Defendants’ arguments miss the mark,” the court ruled. One could reasonably infer that the $2.5 million starting value related to the value of the company’s shares at the time of the consulting agreement, especially given its express purpose to assign a monetary value to the firm. Likewise, the $141 million sale price represented the value of the firm in 2007, and the court concluded the comparison was relevant and reliable.

Moreover, the plaintiff’s expert did not offer an opinion whether the $2.5 million start value was accurate (“nor could he,” the court noted). Rather, the value came from an agreement signed by the defendants and thus constituted their admission. “As is often the case, . . . [an expert] must assume certain facts to provide his opinion,” the court said. “The $2.5 million value . . . is one of them.” The defendants were free to argue to the jury that the figure was inaccurate, and the court admitted the expert’s first calculation of damages.

Alternative scenario poses problems. Under the expert’s second theory, he calculated the amount the plaintiff would have been entitled to under the terms of a written employment agreement that the plaintiff rejected (prior to his acceptance of the alleged oral terms). That written offer provided a cash bonus plus stock, which together would have resulted in just under $5.7 million to the plaintiff.

However, the plaintiff could not premise a breach of oral contract claim on an alleged written agreement (emphasis by the court). In fact, the plaintiff specifically repudiated the written offer. His expert’s opinion regarding its terms was “simply irrelevant,’” the court ruled. Similarly, the expert’s testimony that typical compensation schemes for employees in the plaintiff’s position confirmed the terms of the alleged oral contract was inadmissible, the court held. Such evidence would not aid the jury, the court held, and permitted the expert to testify only to his calculation of damages under the terms of the alleged oral contract, and not to any written offers or industry practice.