capital rationing

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Capital rationing

Placing limits on the amount of new investment undertaken by a firm, either by using a higher cost of capital, or by setting a maximum on the entire capital budget or parts of it.

Capital Rationing

The act or practice of limiting a company's investment. That is, capital rationing occurs when a company's management places a maximum amount on new investments it can make over a given period of time. The two methods of capital rationing are forbidding investments over a certain amount or increasing the cost of capital for such investments. Capital rationing is most common when a company's previous investments have not performed well.

capital rationing

a situation where a firm selects an annual capital budget which is less than the amount required to undertake all INVESTMENTS promising a rate of return in excess of the cost of capital. For example, if a firm requires a minimum 20% return on any investment then all of the appropriate investment opportunities available to the firm which promise a return of 20% or more may involve a total expenditure of, say, £10 million. However, if the firm decides that it is willing to spend only £6 million, then it must rank investment opportunities in descending order of rate of return, undertaking those with the highest promised return and rejecting others even though the latter opportunities promise a re- turn greater than the 20% cost of capital. The firm is said to be in a situation of capital rationing because it is investing less than the amount dictated by usual profit maximizing criteria. See CAPITAL BUDGETING, INVESTMENT APPRAISAL.
References in periodicals archive ?
Andreas Artemis, Chairman of the Bank of Cyprus, Cyprus' largest bank said the bank disagrees with the proposal by Troika that the Central Bank of Cyprus should direct all banking groups in the island to increase the minimum Core Tier 1 capital ration from the present 8% to 10% and to maintain this level for the duration of the adjustment programme to be agreed between the Troika and Cyprus.
The Committee of European Banking Supervisors that ran the tests said that five Spanish lender, Germany s Hypo Real Estate Holding AG and Agriculture Bank of Greece SA were the seven that fell short of maintaining the minimum 6% accepted Tier 1 capital ration under a simulated recession and sovereign debt crisis.
Authorities determined that that 22 of the largest banks in the EU should keep a Tier 1 capital ration "well above" 9 percent during 2009 and 2010 to withstand a worse than expected economic downturn.
Defendants knew that as a result, such would dramatically increase the Company bank division's risk weighted assets, and would decrease the Company's "risk based capital ratio" below federal banking guidelines -- rendering the Company "significantly under capitalized"; (c) because the Company's risk-based capital ration had plummeted below acceptable levels, it had been technically subject to a Prompt Correction Action Order and thereby restricted from accepting or reviewing any brokered deposits; (d) as a result of the above, the Company's 2000 and 2001 results and projections were materially false and misleading.
Net chargeoffs (recoveries) for the first quarter of 1 substantially above the minimum capital ration under the new buyback program.
However, large bank holding companies (those with $50 billion or more in total assets) will be required to "take affirmative steps to improve capital rations, such as external capital raises, when those steps would be needed to meet each Basel III transition on time," Tarullo added.

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