Clearly linkable to COVID-19, Duff & Phelps has made two adjustments to components used in calculating discount rates since February 2020. A discount rate is used when valuing a business or quantifying future lost profits. The future benefits stream (e.g., cash flow) needs to be brought back to its present value (e.g., as of a valuation date or a date of wrongdoing) via a discount rate commensurate with the risks associated with the benefits stream. Adjustments to discount rates will directly impact damage calculations that involve future damages. Through its Cost of Capital Navigator, Duff & Phelps publishes data that companies use to determine appropriate discount rates.
The first COVID-19 related adjustment was made on March 25, 2020, two days after the S&P 500 had fallen approximately 30% from its December 31, 2019 level. Duff & Phelps recognized greater risk in the market and raised its recommended U.S. equity risk premium from 5% to 6% for valuations done thereafter. 1 Duff & Phelps also recognized several economic and financial risk factors were already present during the week of March 9, 2020.
The second COVID-19 related adjustment was made on June 30, 2020, when the normalized risk-free rate was lowered from 3.0% to 2.5% based on declining estimates of real interest rates and lower, long-term growth estimates. 2
COVID-19 will impact economic damage calculations and will likely have an impact on matters being tried years from now.
NOTE: The opinions and thoughts expressed herein are the opinions of Ronald A.Bero, Jr. They are not necessarily the opinions of The BERO Group.