Any business that neglects taking advantage of investment opportunities will soon find its way to bankruptcy. As important as this may be, many businesses, especially small family businesses fail to make optimum investment as a result of shortage of cash.
The situation of cash shortage that leads to the rejection of financially sound investments is known as capital rationing. In this article are six reasons for capital rationing and possible solutions to them.
- The business has become loss making: Companies operating in the loss region are prone to lack cash. Companies can employ the following techniques to remedy this situation. Cost savings, cost management techniques or as a last resort close the business.
- The business operates in a seasonal sector: Businesses that operate in a seasonal kind of business only experience cash surplus in those season and out of cash in other seasons. The possible remedies are; diversify into other areas of business, carryout more promotion to make more sales in each season.
- If a business is still at its infancy stage: If you have set up a business before, you will understand this aspect better. It is not usually a bed of roses for start up businesses. One possible way of remedying this problem is to seek cheap sources of fund.
- Inflation: High inflation may mean that even though the business is profitable in historical cost terms, it is still failing to generate sufficient funds to replace assets. A way of solving this is to think of going globally. Go into countries that have less inflationary rate.
- A large one – off items may be purchased. Some items by nature are capital intensive and tend to sap money out of company’s purse. Preparing cash budgets before time will help remedy this situation, leasing of the equipment, using hire purchase, etc
- Too much investment opportunities at a companies disposal – capital rationing may arise in a situation where the company has more investment opportunities available than the funds allocated to the capital budget permits. This means that projects must be ranked for investment, taking into account financial and non – financial factors of investment appraisal.
Some companies is deliberately restricts capital expenditure for the following reasons.
- To ensure that only the best projects are undertaken. This they achieve by employing a capital budgeting procedure/ investment analysis technique.
- To ensure that there are adequate management resources available for the realization of a company’s potential. I.e. through investing in the best protects.
- Not to loose control in the business. This is common amongst small businesses/ family business
- To avoid diluting the current earnings of the business.
- To avoid committing the coy to paying large fixed interest on additional debt capital.
- As valid as the about points maybe, the best way to go is to strike a balance between business investment opportunities that leads to growth and sustainability of a coy and dwelling of a company. If you have any question and spare time, why don’t you chat in this Forum.