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Auteur

M. Alexander Demuth

Managing director - A&M GmbH Wirtschaftsprüfungsgesellschaft

Auteur

M. Roman Gültlinger

Manager - Alvarez & Marsal Disputes and Investigations GmbH

Editors
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Interest Rates

I. Introduction

1.

Interest “is a standard form of compensation for the loss of the use of money”.1 Interest awarded should “address two of the most basic concepts in finance: the time value of money and the risk of the cash flows at issue.2 

2.

Noteworthy, interest can have a significant impact on damages in arbitral awards3 and is an essential element of achieving full reparation4 for the losses and risks a party bore.5

3.

An award of interest is often categorized in interest that accrues from the date of valuation, i.e. date of the loss (date of breach of obligation(s),6 non- or late payment,7 midpoint8) or the notice of arbitration9 or the statement of claims,10 to the date of the award (pre-award interest), and from the date of the award11 to the date of actual payment which may include costs12 (post-award-interest).13

II. Calculation of interest

A. Interest rates

4.

Interest rates are sometimes specified either in the contract between the parties,14 in the applicable law15 or in a bilateral investment treaty.16 In these cases, the statutory or contractual rate, which could be a fixed interest rate, or a rate expressed relative to a benchmark rate, is to be applied.17

5.

In case the interest rate is neither statutory nor established in the contract between the parties, economic principles can be employed to select an appropriate or reasonable interest rate.18 Three rival theories exist:

  1. Claimant is only “entitled to interest compensating it for the time value of money, but it is not also entitled to compensation for the risks it did not bear."19 By “depriving the plaintiff of an asset […], the defendant also relieved it of the risks associated with investment in that asset."20 Since there is no risk of default once the award is issued, Claimant should earn interest at a risk-free rate.21 Examples of interest rates that are considered (at least nearly) risk-free are yields on certain government bonds (issued for example by the US or Germany) or interbank rates, such as the USD LIBOR.22
  2. As per the coerced loan theory, claimant was effectively coerced into providing respondent with a loan at the date of the original breach, and therefore deserves to earn interest on this forced loan at respondent’s unsecured borrowing rate.23
  3. Since claimant had to raise capital to replace the funds lost as a result of a breach, interest should be awarded based on either claimant’s borrowing rate24 or its cost of capital,25 whereas the cost of capital reflects both claimants’ cost of debt and its required return on equity.26
6.

In practice, pre-award interest is mostly awarded based on a market rate - Market rates such as a yield on government bonds,27 certifiates of deposit,28 central banks,29 prime rates,30 or an interbank lending rate (LIBOR,31 EURIBOR,32 ROBOR,33 WIBOR34) - plus, in some cases, a spread,35 or based on a fixed rate36 specified by the tribunal. In the context of a plurality of valuation dates at which damages became due, tribunals have considered that it may be appropriate to adopt the prevailing market rate at each of these dates.37

7.

When granting interest, tribunals have taken into consideration the conduct of the parties during the proceedings to determine the period over which interest is calculated,38 as well as parties' concern to avoid generating a double recovery, especially in terms of compensating lost profit.39

B. Simple v. compound interest

8.

In absence of a statutory rate or contractual regulations, tribunals need to determine whether interest accrues on a simple basis40 or on a compound basis41 or both.42 While both were equally common in arbitral awards pre-2000 and in the early 2000s, tribunals increasingly rely on compounding since around 2006,43 as it better “reflects the economic reality of investment”.44

9.

Interest has been compounded annually,45 semi-annually,46 quarterly47 or monthly.48

C. Currency issues

10.

Interest rates must reflect the currency in which an investment is made to adequately consider the fundamental economic relationship between the value of a currency and the (nominal) interest rate offered on deposits in that currency.49

III. Appreciation of post-award interest

11.

Insofar as the principle of interest is to compensate Claimant for the time period between the date of valuation and the date of payment,50 there is no reason to differentiate between pre-award and post-award interest.51 In that spirit, tribunals in most cases[...] did not comment upon or distinguish between pre-award and post-award interest."52

12.

However, some tribunals have either refused to accord post-award interests53 or required its payment only after a "grace period" attributed to the Respondent has elapsed54 or “have subjected pre- and post-award interest to different rates”,55 arguing that the purpose of post-award and pre-award is different. I.e. “damages become due as at the date of the Award, and from this time, Respondent is essentially in default of payment."56 A higher or compounded57 post-award interest may also be justified to incentivize respondent to pay the award early.58

IV. Interest on costs

14.

Arbitral tribunals also ordered interest on costs,59 however uncommon.60 The interest rate is usually the same as the one awarded for the damages.61 Arbitral tribunals then referred to USD LIBOR62 or government bonds63 or even ordered interests on a simple basis.64

Bibliography

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