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The country risk premium (CRP) is the additional return investors require for investing in a country with greater risk than a mature reference market. It captures risks such as political instability, sovereign default, economic uncertainty and market volatility. In business valuation, the CRP is commonly incorporated into the cost of equity.
When companies operate internationally, they face a variety of risks with every foreign investment. These go far beyond the usual entrepreneurial challenges.
Country risks are based on the specific political, economic and social conditions of a country. They can differ considerably from those of the domestic market.
The factors influencing them include geopolitical tensions, political instability, exchange rate fluctuations, unpredictable interest rate developments and high inflation rates. Taken as a whole, they can have a significant impact on a company’s business environment abroad.
Moreover, foreign investments often entail risks such as:
These risks can lead to considerable financial losses. They are also likely to impair the competitiveness of companies. A thorough analysis and assessment of country risks is therefore essential before any foreign investment.
Country risks pose a challenge for business valuation. This is because they make it difficult to determine the future cash flows of a company. Two basic approaches make it possible to include these risks in a valuation:
There are three reasons for including risks in the cost of capital:
By including country risks in the cost of capital, the valuation of a company can better reflect the additional uncertainty associated with a foreign investment.
The Capital Asset Pricing Model (CAPM) serves as the basis for calculating the cost of equity. In an international context, this model can be extended to include a country risk premium.
The standard CAPM is:
Ke = Rf + β × MRP
where:
For an international valuation, a country-risk component can be incorporated into the market-risk component. One commonly used construction is:
Ke = Rf + β × (MRP + CRP)
The exact treatment depends on the valuation framework and on how the country risk is measured. The important point is to avoid double-counting: a local risk-free rate or market premium may already incorporate some country-specific effects.
The country risk premium is important for several reasons:
There is no single universally correct calculation. The appropriate method depends on the availability and quality of market data, the country concerned and the valuation framework.
A widely used Damodaran-style approach starts with a sovereign default spread and adjusts it to reflect the higher risk of equity markets. Damodaran’s current methodology starts with a sovereign rating and corresponding default spread, adds an adjustment for the relative volatility of equity markets, and then adds the resulting country risk premium to a mature-market equity risk premium (cf. Aswath Damodaran, 2026; unknown.)
Start with a sovereign rating and estimate the corresponding default spread over a default-free government bond.
For example, Damodaran’s January 2026 data assigns Brazil a Ba1 rating and an adjusted default spread of 2.13%.
The default spread measures sovereign credit risk, but equity investors are exposed to greater volatility than holders of government debt.
Damodaran therefore adjusts the default spread using the relative volatility of equity and bond markets. His current dataset reports a 3.24% country risk premium for Brazil, compared with the 2.13% adjusted default spread.
Conceptually:
CRP = Default Spread × Relative Equity/Bond Risk Adjustment
The precise inputs and adjustment methodology should be documented rather than treated as a universal fixed multiplier.
The country risk premium is then added to the mature-market equity risk premium to obtain a total equity risk premium.
For Brazil in Damodaran’s January 2026 dataset:
Mature-market ERP + Brazil CRP
4.23% + 3.24% = 7.47%
The resulting 7.47% is the total equity risk premium reported for Brazil in the dataset.
For a company with a beta of 1.10, using the illustrative Brazilian figures above:
Ke = Rf + 1.10 × 7.47%
If the applicable risk-free rate were 4.00%, this would give:
Ke = 4.00% + 1.10 × 7.47% = 12.22%
This is an illustrative calculation. The risk-free rate, beta, country risk premium and valuation date must all be consistent with the actual valuation.
A country risk premium does not necessarily have to be applied mechanically at 100% to every company operating in the country.
A multinational company may generate only a small proportion of its revenues or earnings in the country being assessed. Conversely, a company whose business is concentrated entirely in that country may have much greater exposure.
Damodaran therefore also discusses approaches that adjust country-risk exposure using a company-specific lambda, based for example on the proportion of revenues or earnings exposed to the country or on the relationship between company returns and country-risk indicators.
The three broad approaches are not necessarily mutually exclusive. Damodaran’s methodology itself uses sovereign credit information as a starting point and then adjusts it to reflect the additional risk of equity markets.
Aswath Damodaran is known for his work in the field of business valuation. As Professor of Finance at the New York University Stern School of Business, he is considered one of the leading experts on the valuation of companies and assets.
Damodaran works intensively on the topic of country risk premiums and provides extensive data and models for calculating premiums for a large number of countries.
His current country-risk dataset was updated in January 2026. It provides, among other things, sovereign ratings, adjusted default spreads, country risk premiums, total equity risk premiums and, where available, sovereign CDS-based measures.
For the latest country-specific figures, please see Damodaran's Country Risk Premium dataset, as referenced earlier. The dataset should be referenced by valuation date because country-risk estimates change as market conditions change.
Country risks are particularly important in business valuation when a company operates in emerging or otherwise higher-risk markets.
The appropriate treatment depends on the valuation methodology. A valuer should distinguish between:
This distinction is important because adding several risk adjustments that capture the same underlying risk can result in double-counting.
Country risk should therefore be documented together with the valuation date, source, calculation methodology and assumptions used to determine the company’s exposure.
International accounting standards such as IFRS also require valuation assumptions to reflect relevant market and company-specific risks in appropriate circumstances. For example, IAS 36 requires impairment testing to reflect risks relevant to the asset or cash-generating unit being tested.
The country risk premium is an important component of international business valuation. It reflects the additional return investors require for exposure to country-specific risks beyond those captured by a mature-market risk premium.
Determining the CRP is not simply a matter of adding an arbitrary percentage to the discount rate. A defensible calculation should identify the relevant country risk, select an appropriate methodology, use data corresponding to the valuation date and consider the company’s actual exposure to that risk.
Rating-based approaches, interest-rate differentials and broader country-risk models can all provide useful evidence. Damodaran’s methodology provides one established framework, combining sovereign default spreads with a mature-market equity risk premium and an adjustment for the higher volatility of equity markets.
The key is consistency. The CRP should be compatible with the selected risk-free rate, market risk premium, beta, currency and cash-flow assumptions. When these elements are aligned and properly documented, the country-risk adjustment becomes a transparent and defensible part of the business valuation.
Updated at 10 August 2026
The country risk premium represents the additional risk associated with investments in certain countries. It is important because it influences the cost of capital and thus has a direct impact on the value of the company. By taking this risk into account, it enables a more realistic and comprehensive valuation of a company
Country risks are based on the specific political, economic and social conditions of a country. Influencing factors include geopolitical tensions, political instability, exchange rate fluctuations, unpredictable interest rate developments and high inflation rates. These risks can have a significant impact on a company's business environment abroad.
Country risks can be taken into account in the business valuation in two basic ways:
There are various methods for determining the country risk premium, including:
Investors demand a higher return for the higher risk of foreign investments, which is reflected by the country risk premium. By taking this premium into account, the business valuation becomes more realistic and enables a better comparison of companies operating in different countries. International accounting standards such as IFRS also require companies to assess the impact of country risks on company value, which underlines the practical relevance of the country risk premium.
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