Liquidity

Liquidity

1. What is it?

   • Liquidity measures the ability of a firm to find the cash to pay its bills. The cash needs to be available in a current bank account or close to being available, such as a payment promised for next week

2. Key Words!

   • Non-current assets – the long term assets of a business which are not expected to be sold within the next year of trading
   • Current assets – there are short term assets of the business which are likely to be turned into cash within the next year of trading
   • Non-current liabilities – these are debt which are not expected to be paid off within the next year of trading
   • Current liabilities – these are debts which are expected to be paid within the next year of trading

3. Formulas for Liquidity

   • Current ratio – to measure liability CURRENT RATIO = CURRENT ASSETS / CURRENT LIABILITIES
   • Acid ratio – to measure liquidity CURRENT ASSETS – STOCK / CURRENT LIABILITIES

4. What measures can a business take to improve it liquidity?

   • - A business can reduce the amount of stock that it holds, so finished goods need to be dispatched faster to customers.
   • - A business could reduce the credit period offered to customers, for example insist that customers pay in 30 days not 90 days.
   • - A business could also pay suppliers later on agreed credit terms
   • - Increase borrowing long term and clear the short term debts
   • - Reduce personal savings from the business
   • Use overdraft facilities

5. What is Working Capital?

   • This is the funds that a business has to meet its day to day expenses. Calculated by current assets – current liabilities. Very low would indicate that the business was in trouble and was having an issue paying its expenses.
   • There is sometimes a time lag between a customer paying for goods and a supplier wanting payment hat isn’t in favour of the capital. This can cause a shortage of working capital.