Question 6.S-TQ9: Explain the distinction between hard and soft capital ration...
Explain the distinction between hard and soft capital rationing, and outline the reasons why these conditions might occur.
If a company is restricted in the capital available for investment, it will not be able to under-take all projects with a positive NPV and is in a capital rationing situation. Capital rationing may be either soft (owing to internal factors) or hard (owing to external factors). Soft capital rationing may arise if management adopts a policy of stable growth, is reluctant to issue new equity or wishes to avoid raising new debt capital. It may also arise if management wants to encourage competition for funds. Hard capital rationing may arise because the capital markets are depressed or because investors consider the company to be too risky.