Factors affecting the liquidity ratio
Posted: Mon Jan 20, 2025 5:04 am
Companies that offer services, on the other hand, do not usually have many liquid assets that can be quickly converted into cash. This will generate a low ratio, but it is not necessarily an indication of poor financial health.
Retail companies also work with very large inventories, so the ratio varies depending on the speed at which products can be sold.
It should also be noted that these values vary depending on the size of the company and how new its operations are.
For example, a large company that has been operating for years may have greater negotiating power with suppliers, so they can work with a low ratio. On the other hand, SMEs usually need a higher ratio to allow them to overcome challenges or unforeseen situations.
Interpretation of the liquidity ratio
How can we interpret the liquidity ratio? Although the calculation has to be done very carefully, the analysis of the results is much more sensitive. If you do not know about the subject, you can draw wrong conclusions that generate errors in your administrative management.
Ideally, the ratio should be in a range between 1.5 and 2.5. When these values are greater than 1, they indicate that the company has the ability to cover its short-term obligations, thus showing good financial health.
Results between 1 and 1.5 indicate that, although resources are available, measures may need to be taken to increase working capital in case of emergencies. On the other hand, if the ratio exceeds 2.5, it is a sign that there is excess liquidity and it is not being used correctly and that it can be invested to promote business growth.
Finally, the most unfavorable case occurs when the liquidity ratio is list of brazil cell phone number less than 1, which is an example of the company running the risk of not having the resources to pay its short-term debts and, if not resolved, may even have to declare technical bankruptcy.
A company's ability to convert its assets into liquid cash can vary due to many factors, both internal and external. It is important that you know how a company's short-term liquidity can be affected by these factors:
Credit and collection policies : If your business has very complex collection policies, you may not be able to transform these liquid assets quickly, which will reduce your liquidity.
Inventory management : As we have mentioned, having products in stock that are not selling or are obsolete can significantly reduce the liquidity ratio and generate solvency problems.
Sales cycle : There are cases where products or services are requested only during certain periods of the year, causing the sales cycle to interfere with your liquidity during the inactive months.
Operating expenses : keeping a balance of your operating expenses each month is essential to control the liquidity of a company. This is because they are recurring expenses and you must always have money available to cover them.
These are some internal factors, but there are also some external factors that you should be aware of, such as rising interest rates on your loans, competition in the same industry, government regulations that affect your business, or even tax increases. All of these are elements that you need to be aware of in order to assess your liquidity.
Retail companies also work with very large inventories, so the ratio varies depending on the speed at which products can be sold.
It should also be noted that these values vary depending on the size of the company and how new its operations are.
For example, a large company that has been operating for years may have greater negotiating power with suppliers, so they can work with a low ratio. On the other hand, SMEs usually need a higher ratio to allow them to overcome challenges or unforeseen situations.
Interpretation of the liquidity ratio
How can we interpret the liquidity ratio? Although the calculation has to be done very carefully, the analysis of the results is much more sensitive. If you do not know about the subject, you can draw wrong conclusions that generate errors in your administrative management.
Ideally, the ratio should be in a range between 1.5 and 2.5. When these values are greater than 1, they indicate that the company has the ability to cover its short-term obligations, thus showing good financial health.
Results between 1 and 1.5 indicate that, although resources are available, measures may need to be taken to increase working capital in case of emergencies. On the other hand, if the ratio exceeds 2.5, it is a sign that there is excess liquidity and it is not being used correctly and that it can be invested to promote business growth.
Finally, the most unfavorable case occurs when the liquidity ratio is list of brazil cell phone number less than 1, which is an example of the company running the risk of not having the resources to pay its short-term debts and, if not resolved, may even have to declare technical bankruptcy.
A company's ability to convert its assets into liquid cash can vary due to many factors, both internal and external. It is important that you know how a company's short-term liquidity can be affected by these factors:
Credit and collection policies : If your business has very complex collection policies, you may not be able to transform these liquid assets quickly, which will reduce your liquidity.
Inventory management : As we have mentioned, having products in stock that are not selling or are obsolete can significantly reduce the liquidity ratio and generate solvency problems.
Sales cycle : There are cases where products or services are requested only during certain periods of the year, causing the sales cycle to interfere with your liquidity during the inactive months.
Operating expenses : keeping a balance of your operating expenses each month is essential to control the liquidity of a company. This is because they are recurring expenses and you must always have money available to cover them.
These are some internal factors, but there are also some external factors that you should be aware of, such as rising interest rates on your loans, competition in the same industry, government regulations that affect your business, or even tax increases. All of these are elements that you need to be aware of in order to assess your liquidity.