1.6 Cash Flows and the Variance in Returns

Under the methodology the more Systematic Risk transferred, the higher the discount rate. This is an important point. The PSC cash flows are normally developed including the Expected Value of risk, regardless of source, be it systematic or non-systematic (although they exclude uncertainty). However, under PPP arrangements the private sector may share in the Systematic Risk of the project. This risk exposes the PPP cash flows to variability in returns. This variability is priced into the required returns of PPP contractors and is built into the Service Fee. Under the modified form of CAPM this variability in return is compensated through a higher Discount Rate (reflective of the level of systemic risk borne).