Liquidity is the ability of assets to be easily converted into cash. In the broadest sense of the word, liquidity is the solvency of the organization, i.e. her ability to meet her debts on time. To assess the solvency of the enterprise, the indicators of absolute and current liquidity are calculated.
Current liquidity
In the process of assessing the liquidity and creditworthiness of the enterprise, the current liquidity indicator is calculated. This ratio is calculated according to the balance sheet and reflects the percentage of repayment of short-term liabilities of the company by its current assets. The higher the debt coverage ratio, the more attractive the company is for potential borrowers.
The current liquidity indicator is calculated by dividing the sum of all current assets by the amount of current liabilities. The amount of current assets is determined by the indicators of the second section of the balance sheet "Current assets" and includes cash, reserves, debtors' liabilities, short-term financial investments. Current liabilities include short-term loans and borrowings, accounts payable and the amount of other borrowed funds.
The standard value of the debt repayment ratio should be greater than 2. The calculation of this indicator is of particular interest to creditors, since its value reflects the ability of the enterprise to fully pay off its debts in the event of a decrease in the market price of assets.
Absolute liquidity indicator
The absolute liquidity ratio is calculated as the ratio of highly liquid assets to the value of the most urgent liabilities. The amount of cash and short-term financial investments is taken into account as highly liquid assets. Current liabilities are understood as short-term liabilities less deferred income and reserves for future expenses.
Based on the calculation of the absolute liquidity ratio, it is possible to determine the amount of urgent liabilities that the organization can repay as soon as possible. The optimal value of the coefficient is greater than 0, 2. The value of this indicator is most important for future suppliers and lenders providing short-term loans.
Differences between current and absolute liquidity
Calculation of current and absolute liquidity ratios makes it possible to assess the company's solvency in the short term. Unlike the absolute liquidity indicator, the coverage ratio reflects the ability of an enterprise to meet its debts in the long term.
Absolute liquidity shows the ability of an organization to pay off its most urgent obligations with its cash and collected accounts receivable. When determining the indicator of current liquidity, not only money received from the sale of finished products and the sale of receivables, but also funds from the sale of current assets are taken into account.
For shareholders and potential investors, the indicator of current liquidity is of great importance, and for suppliers and creditors providing funds for a short period - the indicator of absolute liquidity.
