It is a technique which is used with capital budgeting methods. Capital rationing method is used whenever company has restricted fund for investing in gainful investment proposals. In another words Capital rationing is a strategy utilized by companies to make investments based on the present relevant situation of the company.
Description of Capital Rationing with simple illustration:
For illustration, Company fixes his precedence to invest his money in more gainful projects. Assume that a company has $ 1 million dollar and after utilizing the Profitability index method of capital budgeting company found that three projects of $ 600000, $ 300000 and $ 400000 are gainful out of seven projects however when company has limited cash of $ 1 million only. With this money, company can employ capital rationing method. Under this method, when company sees that First and third proposal’s profitability index is high than second, then they will choose only two projects combination out of the three projects.
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