Question

Provide one reason for foregoing value-added projects under capital rationing.

Answer 1

Capital ratioing is a term that is used to describe a situation where the firm can not fund all projects despite having positive NPV from those projects because of fund constraints so companies use some kind of capital rationing, capital ratioing can be hard capital rationing where the restriction is imposed by the forces outside the business control or soft capital ratioing that means companies use some form of criteria within the company to select investment. One reason we can say for forgoing projects despite having high value is that they do not meet the minimum return criteria for the company to consider the investment. For example, a project might have a expected return of 10% but the company expects to invest in project having minimum return of 15% or 20%.