The Country Risk Premium: A Foreign Affair
The country risk premium (“CRP”) is an upward adjustment to the discount rate that some valuers apply when valuing businesses that operate in emerging economies and other economies perceived as less developed or stable than, for instance, the US. All else being equal, applying a CRP will increase the discount rate and therefore generally reduce the assessed value of a business.
In the context of damages calculations, the application of a CRP can have a significant impact on quantum, as highlighted by recent awards. It is also controversial: some of the justifications given for its application are disputed and many of those who nevertheless advocate an adjustment recognise that the analyses commonly used to estimate a CRP have important limitations.
Despite the debate surrounding it, the limitations of the CRP and the methods used to quantify it are sometimes overlooked in high value litigations and arbitrations. A consequence can be that too much weight is placed on a discounted cash flow (“DCF”) analysis that relies on a CRP in preference to other valuation analysis and evidence. In our view, it is important that judges, tribunals and the wider litigation and arbitration communities are aware of the debate surrounding the CRP so that they in turn can make informed decisions about the quantum claims they advance, or the judgments or awards they render. This article summarises some of the debate surrounding the CRP.