The riskiness of an asset is independent of the owner or its source(s) of finance. A project's cost of capital - the discount rate used to derive the present value of the project's cashflows -is a function of the riskiness of the project, irrespective of whether the project is undertaken by the public or private sectors.
For a typical private sector project, the riskiness of a project is therefore reflected in rate of return at which the project's forecast cashflows are discounted. The project's net cashflows are discounted at the risk-adjusted rate to the present day and if the difference between the present value of the cashflows and the capital investment is equal to or greater than zero, the project is accepted or otherwise rejected. For non-commercial sector agencies, the value of project risks in the PSC is included in the numerator cashflows referred to as risk-adjusted expected values, as opposed to forecast, or most likely values, as discussed in Attachment D.
The PSC is a model of the capital and cost structure of the project, adjusted for risk, which is directly reflected in the project's cashflows. Once discrete adjustments have been made for project risk, the application of a risk-adjusted discount rate would in effect be double- counting risk.
The relevant rate for the purpose of discounting cashflows in the PSC is provided in the following sections.