Liquidity

LIQUIDITY

- ability of a company to convert investments and other assets into cash to meet its obligation.

- Show the solvency of a company based on its assets versus its liabilities. In other words, it lets you know the resources available for a firm to use in order to pay its bills, keep the lights on, and pay the staff.

A/R – relatively liquid asset because receivables will be collected in the near future.

Supplies – are less liquid

Furnitures&buildings – even less liquid because of their long lives

Current asset – cash, A/R, Notes Receivable, Prepaid Expenses

Inventory – holds the cost of the goods the business is holding for sale to costumers

A. Current ratio - The current ratio is a financial ratio designed to tell you the level of current assets compared to current liabilities. The current ratio that is "good" for a company depends upon its industry.

Current ratio = current asset/ current liability

Ex. If a company has P10M current assets & P5M current liabilities = 10/5 = 2

An acceptable current ratio varies by industry. Generally speaking, the more liquid the current assets, the smaller the current ratio can be without cause for concern. For most industrial companies, 1.5 is an acceptable current ratio. As the number approaches or falls below 1 (which means the company has a negative working capital), you will need to take a close look at the business and make sure there are no liquidity issues. Companies that have ratios around or below 1 should only be those which have inventories that can immediately be converted into cash. If this is not the case and a company's number is low, you should be seriously concerned.

Inefficiency

If you're analyzing a balance sheet and find a company has a current ratio of 3 or 4, you may want to be concerned. A number this high means that management has so much cash on hand, they may be doing a poor job of investing it. This is one of the reasons it is important to read the annual...