A Conceptual Framework on Country Risk in the Discounted Cash Flow - Journal of Damages in International Arbitration, Vol.5, No.2
Originally from Journal of Damages in International Arbitration
There is an important body of international jurisprudence supporting the point that country risk has gained prominence in international arbitration over the past decade. One can easily browse decisions rendered by international arbitral tribunals to find out that country risk has been extensively discussed in many instances and that a country risk premium has been applied in a large number of cases involving investment disputes. However, one would also probably note that many international tribunals have failed to adopt a standardized and uniform approach for applying country risk premium. In some instances, tribunals are simply silent as to country risk and do not engage into the debate when valuing an asset. In other cases, country risk takes the form of a fixed, arbitrary premium applied to the discount rate under the income approach (Discounted Cash Flow).1 There is also a body of evidence that country risk should not take the form of a premium but rather the cash flow should be adjusted to reflect economic and political uncertainties of a particular country. Not surprisingly, country risk in international arbitration is perceived as a process fraught with uncertainty and confusion typically leading to a set of inconsistent decisions and diverging jurisprudence.
In the light of the above, I propose to develop a conceptual framework for fulfilling the arbitrators’ and/or the parties’ goal of developing a satisfactory approach to country risk. I advocate that such an approach should be clearly principles based, internationally consistent and converged. Such a framework is needed to give coherence to the application of country risk and application of country risk premium when required. I have sought to explain options available to arbitrators and parties when deciding on the applicability of specific country risk premium. This article is written from the valuation practitioner’s perspective and not a legal one. Consequently, I do not discuss situations where the parties are legally bound to a specific approach concerning country risk, usually under constraints or prohibitions from a domestic legal system or dictated by an international treaty.