Accounting Expert Witness’ Disgorgement Analysis Using Full Absorption Method Admitted
Posted on January 20, 2025 by Expert Witness Profiler
Plaintiff Multiple Energy Technologies, LLC (“MET”) accused Under Armour of false advertising in relation to certain products that contain bioceramic powder. MET contended that Under Armour inaccurately claimed that the Federal Food and Drug Administration had determined that those products enhanced recovery.
Under Armour sells activewear and sleepwear products directly to consumers. This includes the sale of products containing a competing bioceramic product known as Celliant, which is manufactured by Hologenix, LLC (“Hologenix”). Under Armour advertises these products separately from their other product offers and as helping to promote recovery, especially for athletes.
Plaintiff MET brought four claims against Defendant Under Armour, Inc.: violation of the Lanham Act, violation of the Sherman Act, misappropriation of trade secrets; breach of non-disclosure agreement; tortious interference with contract; tortious interference with prospective business expectancies; unjust enrichment; unfair competition; conversion; a claim for an accounting; and a claim for injunctive relief.
Under Armour retained Jerome Schmitt to rebut MET’s damages expert, Peter Wrobel. MET filed a motion to exclude the expert testimony of Under Armour’s accounting expert witness, Jerome Schmitt.
Accounting Expert Witness
Jerome B. Schmitt is a Certified Public Accountant (CPA) and is accredited in business valuation, certified in financial forensics, and a Certified Fraud Examiner.
He has extensive experience in calculating damages—including claims for monetary relief in trademark infringement, false advertising, and other Lanham Act cases—and in the valuation of intellectual property, including trademarks and trade names.
Schmitt earned his Bachelor of Science in Business Administration in Accountancy from John Carroll University in 2000. He followed this with a Master of Business Administration degree from the same institution in 2002.
Discussion by the Court
Schmitt concluded that any disgorgement of Under Armour’s profits from the sale of Recover products would not exceed $151,162. This was based on several assumptions and methods, including the following:
- He assumed that the appropriate time frame for the disgorgement analysis spanned from July 1, 2017, to December 31, 2020.
- He applied the “full absorption” method and determined that certain costs qualified as appropriate deductions for purposes of calculating the profits subject to disgorgement.
- He assumed factors beyond the alleged advertising, such as contributions from Under Armour’s brand value and advertising of the Recover products beyond the alleged false statements, should be taken into account in calculating profits subject to disgorgement.
- He used the relief from royalty method to discount damages due to Under Armour’s brand value.
MET argued that Schmitt’s opinions:
I. addressed topics beyond his qualifications.
II. used unreliable methodology for calculating damages.
III. presented a serious risk of confusing the jury and were unfairly prejudicial.
The Court addressed each of these arguments.
I. Schmitt has not opined on topics beyond his expertise
MET claimed that Schmitt offered opinions that he was unqualified to give, regarding:
(1) the appropriate time frame for measuring damages arising out of false advertising;
(2) the value of Under Armour’s brand and how that value reduced the amount of profit realized from false advertising;
(3) the impact of Under Armour’s advertisements beyond the alleged false statements; and
(4) reasons as to why Under Armour would or wouldn’t enter into a contract with MET.
Time frame for measuring damages
Based on evidence in the record and for the purpose of his analysis, Schmitt assumed that a potential disgorgement of Under Armour’s profits would be limited to sales of Recover products from July 1, 2017, to December 31, 2020.
The Court found this assumption regarding the appropriate time frame perfectly acceptable. The Court observed that MET confused Schmitt’s assumption for calculating Under Armour’s profits attributable to false advertising as an opinion about marketing and advertising.
It was held that his assumption about the appropriate time frame for measuring damages relied on evidence in the record. Specifically, it was based on responses to interrogatories indicating that Under Armour’s advertisements referencing the FDA had ended by March 2020. Additionally, the Court found that MET did not identify any specific instances of alleged false advertising after 2020. Therefore, the Court was held that the assumption was permissible.
Brand valuation
Schmitt opined that Under Armour’s brand contributed to Under Armour’s ability to make sales of Recover products. He applied the relief from royalty method to reduce Under Armour’s profits from the sale of Recover product by the value of the Under Armour brand.
MET argued that Schmitt was not qualified to opine on Under Armour’s brand value or the impact that it had impact on profits. However, the Court disagreed.
Given his qualifications as a CPA with extensive experience in calculating damages and the valuation of intellectual property, the Court found that Schmitt was qualified to opine on brand valuation and on how Under Armour’s brand and intellectual property contributed to the profit on sales of Recover products.
Impact of Under Armour’s advertisements beyond the alleged false statements
Schmitt opined that Under Armour’s advertisements for Recover products “contain additional language and concepts that are not alleged to be false advertising.” These included references to “fast recovery, the use of bioceramic powder, and the product’s functionality.” He stated that, assuming a finding of liability, it was appropriate to account for the contribution of such language relative to the alleged false advertising.
Analysis
To begin with, the Court found that Schmitt was qualified to opine on factors that could appropriately be considered as part of the disgorgement analysis. The Court found that, contrary to MET’s argument, Schmitt did not opine on the impact that the advertising at issue had on sales of particular products, particularly because he did not purport to calculate the amount of profits attributable to the effect of advertising that is not alleged to be false.
When MET argued that Schmitt’s testimony on causation was inappropriate, the Court found that Schmitt stated in his report and deposition testimony that his analysis was based on “an assumption that there will be a finding of liability.” Schmitt further explained that, while the damages expert is not necessarily opining as to the liability of the alleged act, the damages expert cannot simply calculate damages that are untethered to the act.
In conclusion, the Court found that Schmitt’s damages opinion “did not attempt to define the law applicable to the case.” Instead, the conclusions he drew in his report, such as the propriety of accounting for the effect of “positive” advertising when assessing profits for disgorgement, were based on his apportionment analysis under the Lanham Act.
Schmitt merely opined that the disgorgement calculation could be further reduced by the profits that are not attributable to the alleged false advertising. To sum up, this fell into the category of “facts leading to a legal analysis,” not a “legal conclusion.”
Analysis of Wrobel’s “reasonable royalty” calculation
MET argued that Schmitt inappropriately opined on “reasons as to why Under Armour would or would not enter into a contract with MET.” However, the Court interpreted Schmitt’s report differently. Schmitt instead opined that Wrobel’s “reasonable royalty” calculation was speculative because of his assumption that, but for the alleged misconduct, Under Armour would have entered into an agreement with MET instead of Hologenix.
Schmitt disputed this assumption by citing the record. He noted “a number of factors that influenced [Under Armour’s] decision to switch from” MET to Hologenix, “that are independent of the alleged false advertising or other alleged wrongful conduct.”
The Court found that, in rebutting Wrobel’s expert report, Schmitt made permissible assumptions. In other words, these assumptions were “reasonably based on the evidence in the record.” It added that any weaknesses in the facts and assumptions underlying Schmitt’s opinion could be explored on cross-examination.
II. Schmitt may use the full absorption method to calculate costs, but the Court will hold in abeyance its decision on the relief from royalty method
A. Full absorption method
To determine the profits available for disgorgement, Schmitt applied the full absorption method. This method “deducts costs that assist in the production, distribution, or sale of the products at issue, irrespective of whether or not such costs are considered fixed or variable.” After reviewing Under Armour’s financial reports and having a discussion with an Under Armour employee, he concluded that certain costs included in Under Armour’s selling, general, and administrative expenses contributed to the sales of the Recover products at issue. He then deducted these costs from the revenue on Recover products.
MET argued that Schmitt’s use of the full absorption method was inappropriate because Under Armour would have incurred much of those fixed costs without selling the infringing product which is why the method failed to show that the costs and profits excluded from the disgorgement analysis were not attributable to the infringing product.
The Court decided not to exclude Schmitt’s testimony applying the full absorption method. Generally, in trademark infringement cases, courts have used two methods for apportioning costs:
a) The incremental approach “under which only direct costs of production are deducted.”
b) the full absorption approach “under which overhead costs are apportioned to production of the infringing item.”
According to the Court, MET was correct that, for a disgorgement analysis under the Lanham Act, the infringer “bears the burden of proving all elements of cost or deduction” and “has the burden to isolate the profits which are attributable to” the infringement.
However, MET’s criticisms of Schmitt’s application of the full absorption method concerned the weight of his testimony, not its admissibility. The Court held that these criticisms should be addressed through cross-examination of Schmitt, a crucial part of which would be his decision to use the full absorption method.
B. Relief from royalty method
To value the contribution of Under Armour’s intellectual property to the sale of its products, Schmitt used the relief from royalty method. Under this method, he applied a “market-based royalty for the subject intellectual property at issue as a reasonable proxy for the profit or value it contributes to the sale of products that use the intellectual property.”
Basically, to establish what the applicable royalty rate would be for the Under Armour brand, he looked at one instance in which Under Armour licensed its name and logo to an apparel distributor, through which Under Armour received a 14% royalty of the net revenue of apparel sold with its name or logo. He then reduced Under Armour’s profits from the sale of Recover products by 14%, to reflect the royalty that Under Armour “was relieved from paying by virtue of owning its brand.”
MET argued that Schmitt’s use of the relief from royalty method was improper because a hypothetical royalty amount isn’t a proper deduction when evaluating Lanham Act damages.
While Under Armour argued that “courts accept the apportionment of profits for contributions made by a Defendant in generating those profits,” it had not sufficiently established that the relief from royalty method had been subjected to peer review or that it is a generally accepted method for calculating proper costs or deductions in the Lanham Act context.
While the novelty of Schmitt’s methodology was “not a per se reason for exclusion,” the Court lacked a basis to decide whether his methodology was sufficiently reliable. Therefore, the Court declined to rule on whether Schmitt’s testimony applying the relief from royalty method should be excluded. The Court intended to hold an in limine hearing, with Schmitt in appearance-as to the relief from royalty methodology and its reliability.
III. The Court won’t exclude Schmitt’s report and testimony under Rule 403
MET argued that based on the purported deficiencies, Schmitt’s testimony presented a serious risk of confusing the jury and prejudicing MET as per Rule 403.
Balancing the probative value against the prejudice, the Court found that the probative value of Schmitt’s expert opinions was high. In other words, it was held that there was no danger of unfair prejudice. If any confusion or potential prejudice arose, the Court declared that it was open to curative jury instructions to assist the jury.
Held
The Court held that it would leave open the issue of whether Schmitt’s application of relief from royalty methodology is admissible under Rule 702. However, it denied MET’s motion to exclude expert Jerome Schmitt’s report and testimony in all other respects.
Key Takeaways:
The Court denied MET’s motion to exclude Jerome Schmitt’s testimony in all other respects for three main reasons:
- Qualification and Expertise: The Court found that Schmitt did not exceed the scope of his expertise. His opinions regarding the timeframes, brand valuation, and advertising impact were all within his qualifications given his extensive experience in damages calculation and intellectual property valuation. The Court noted that Schmitt based his assumptions on evidence in the record and didn’t make impermissible legal conclusions.
- Methodology: The Court accepted Schmitt’s use of the “full absorption” method to determine the profits available for disgorgement. The Court viewed MET’s criticism of the method as a challenge to its weight, not its admissibility. It determined that cross-examination could address these issues.
- Rule 403 Balancing: The Court determined that Schmitt’s testimony had high probative value that outweighed any potential prejudice. Therefore, any risk of jury confusion could be addressed through curative jury instructions.
Please refer to the blogs previously published about this case:
Case Details:
| Case caption: | Multiple Energy Techs., LLC v. Under Armour, Inc. |
| Docket Number: | 2:20cv664 |
| Court: | United States District Court for the Western District of Pennsylvania |
| Dated: | January 13, 2025 |
