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Economic damage calculations require practitioners to analyze risks and uncertainties. In addition, economic damage calculations frequently involve future periods of time. A discount rate is often used to address these considerations. This practice aid is intended to enhance practitioners’ understanding of the development and application of discount rates.
The practice aid begins with an overview of the concepts of the time value of money, the financial principals embodied in the discount rate, and the various types of damage computations wherein a discount rate may be applied.
The heart of this practice aid revolves around a detailed discussion that sets forth the spectrum of methods presently accepted by the courts to account for risk and uncertainty. These methods include the capital markets approach, where a relatively higher discount rate is typically used to reduce risk in the damages model, and theexpected cash flows approach, where a relatively lower discount rate is used because certain risks are incorporated directly into the modeled cash flows. Either approach may be appropriate depending upon the circumstances of the particular economic damages calculation. This is because both approaches call for risk to be accounted for somewhere, and the damage conclusion reached by the expert should not be significantly impacted based upon the approach employed.
An extensive review of available case law relevant to the selection of an appropriate discount rate is also presented.
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