Capital rationing is a situation in which a company has limited amount of capital to invest in projects, different possible investments need to be compared with one another in order to allocate the limited resources in effective manner. Capital rationing can be divided into two types, one is soft capital rationing, and the other one is hard capital rationing. Soft capital rationing refers to internal factors, whereas hard capital rationing refers to external factors.
Soft capital rationing may arise for one of the following reasons:
1. Management may be unwilling to issue additional shares if it leads to a dilution of earnings per share;
2. Management may be unwilling to raise additional debts, since they are worried about large fixed interest payments.
Hard capital rationing may arise for one of the following reasons:
1. If share price are depressed, it is impossible to raise funds through stock market;
2. There may be restrictions on bank lending due to government control;
3. The costs associated with making small issues of capital may be too great.
Company may seek other sources of finance to alleviate the capital rationing situation, such as venture capital, debt finance secured on the assets of the project, sales and leaseback of property or equipment.