Capital Rationing

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DEFINITION of 'Capital Rationing'

The act of placing restrictions on the amount of new investments or projects undertaken by a company. This is accomplished by imposing a higher cost of capital for investment consideration or by setting a ceiling on the specific sections of the budget.

BREAKING DOWN 'Capital Rationing'

Companies may want to implement capital rationing in situations where past returns of investment were lower than expected. For example, suppose ABC Corp. has a cost of capital of 10% but that the company has undertaken too many projects, many of which are incomplete. This causes the company's actual return on investment to drop well below the 10% level. As a result, management decides to place a cap on the number of new projects by raising the cost of capital for these new projects to 15%. Starting fewer new projects would give the company more time and resources to complete existing projects.

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