operating liquidity

Examples of operating liquidity in the following topics:

• Importance of Working Capital

  • Working capital (WC) is a measurement of a company's operating liquidity.
  • WC is a signal of a company's operating liquidity .
  • WC can also be described as the amount of money that a small business or start-up needs to stay in operation.
  • WC is only one measure of a company's operating liquidity.
  • Liquidity is a measurement of a company's ability to quickly turn assets into cash.

• Working Capital

  • Working capital is a financial metric which represents operating liquidity available to a business, organization and other entity.
  • Working capital (abbreviated WC) is a financial metric which represents operating liquidity available to a business, organization or other entity, including a governmental entity.
  • Along with fixed assets, such as plant and equipment, working capital is considered a part of operating capital.
  • A company can be endowed with assets and profitability but short of liquidity if its assets cannot readily be converted into cash.
  • The goal of working capital management is to ensure that the firm is able to continue its operations and that it has sufficient cash flow to satisfy both maturing short-term debt and upcoming operational expenses.

• Calculating Working Capital

  • Working capital (WC) is a financial metric which represents operating liquidity available to a business, organization, or other entity, including governmental entity.
  • Along with fixed assets, such as plant and equipment, working capital is considered a part of operating capital.
  • Current liabilities (CL) is an accounting term similar to CA: CL is the amount of liabilities that are expected to be settled in cash within a year (or the operating cycle of the company).
  • The difference between the two (WC) is a measurement of liquidity.
  • WC is not a guarantee that the company will have enough cash for each expense, merely that they have operating liquidity.

• Understanding the Needs of the Business

  • Working capital needs will vary depending on the type of the business and its operational requirements.
  • Working capital is a financial metric which represents the operating liquidity available to a business.
  • Sufficient working capital is required to ensure that a firm is able to continue its operations and that it has sufficient funds to satisfy both maturing short-term and long-term debt and take care of upcoming operational expenses.
  • A company can be endowed with assets and profitability but short of liquidity if its assets cannot readily be converted into cash.
  • In any company, large or small, there is an inherent tradeoff between liquidity and profitability.

• Types of Risk

  • There are many types of financial risk, including asset-backed, prepayment, interest rate, credit, liquidity, market, operational, foreign, and model risk.
  • Liquidity risk is the risk that an asset or security cannot be converted into cash in a timely manner.
  • Some investments (i.e. stocks) can be sold immediately at the current market rate and others (i.e. houses) are subject to a much higher degree of liquidity risk.
  • Operational risk is another type of risk that deals with the operations of a particular business.
  • If you are invested in the Boston Red Sox, your operational risk might include the chance that starting pitchers and recent acquisitions won't perform, that your manager will turn the clubhouse into a mess, or that ownership will not be able to execute a long term strategy.

• Long-Term Approach

  • The 'current' and 'non-current' classification can be seen as defective for describing the operations of a firm because different operations are classified together.
  • The difficulty of associating working capital with the operating cycle is compounded by the way the concept of the operating cycle is applied in practice.
  • Cash becomes available for the paying of short-term liabilities primarily from operations, not from the liquidation of particular assets such as accounts receivable.
  • Therefore, if revenues are contracting, the liquidation of assets through normal operations will be delayed, but the due dates for liabilities will not change.
  • Above is a flow chart for a sample operating cycle for a firm.

• Current Ratio

  • The liquidity ratio is the result of dividing the total cash by short-term borrowings.
  • Acid Test - a ratio used to determine the liquidity of a business entity.
  • Some types of businesses usually operate with a current ratio less than one.
  • This can allow a firm to operate with a low current ratio.
  • High liquidity means a company has the ability to meet its short-term obligations.

• Short-Term Approach

  • The main considerations are cash flow / liquidity and profitability / returns on capital.
  • The most widely used measure of cash flow is the net operating cycle or cash conversion cycle.
  • The cash conversion cycle indicates the firm's ability to convert its resources into cash and informs management of the liquidity risk entailed by growth .
  • Because this number effectively corresponds to the time that the firm's cash is tied up in operations and unavailable for other activities, management generally aims at shortening the cash conversion cycle as much as possible.
  • If the firm is in an effective cash liquidity position, it can maintain its past credit policies.

• Liquidity

  • In accounting, liquidity (or accounting liquidity) is a measure of the ability of a debtor to pay his debts when they fall due.
  • Liquidity also refers both to a business's ability to meet its payment obligations, in terms of possessing sufficient liquid assets, and to such assets themselves.
  • The operating cash flow ratio can be calculated by dividing the operating cash flow by current liabilities.
  • The liquidity ratio (acid test) is a ratio used to determine the liquidity of a business entity.
  • The formula is the following: LR = liquid assets / short-term liabilities.

• Using Financial Statements to Understand a Business

  • Normal earnings are also separated into net operational profit after taxes (NOPAT) and net financial costs.
  • In this example the balance sheet is grouped in net operating assets (NOA), net financial debt, and equity.
  • Risk analysis consists of liquidity and solvency analysis.
  • Liquidity analysis aims at analyzing whether the firm has enough liquidity to meet its obligations.
  • RNOA is return on net operating assets, NFIR is the net financial interest rate, NFD is net financial debt and E is equity.