The Types and Functions of Liquidity in Business

In a company, liquidity is one of the important factors to determine the state or sustainability of a company. Therefore, many business actors use liquidity as a benchmark or reference to assess the company’s ability to finance the company’s operational needs or activities.

Liquidity can be said as the company’s ability to meet or pay short-term debt obligations using current assets such as trade payables, dividends payable, tax payables, and others.

The level of liquidity of a company, can be shown in certain numbers, such as quick ratio numbers, current ratio numbers, and cash ratio numbers. Accounting ratios are the relationship between two financial variables that are systematically related to each other. Therefore, a ratio analysis obtained from the calculation process and the results of accounting ratios has the aim of being able to make a decision on the agreement of a company.

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Based on the explanation above, the liquidity ratio can show whether your company has enough cash to pay off its obligations or whether the company must use some company assets such as inventory, receivables or trading securities to be converted into company cash.

Since the liquidity ratio is short-term, of course as a creditor you will always want to know your company’s liquidity position in order to finance your company’s operations Here are the types of liquidity ratio that are important for business:

The current ratio of liquidity

The current ratio is a number used to show how much the company’s ability to meet its current liabilities by using current assets. In addition, this ratio can be used as a comparison between current assets and current liabilities.

The method used to determine the level of the current ratio in the company is quite easy, namely by observing the number of current assets of the company such as cash, accounts receivable, inventory and other current assets. If current assets have a larger amount than current liabilities, the company has a high current ratio. And the higher the current ratio, then a company can be sure that the company has the ability to pay off its debts or obligations.

Fast ratio

The quick ratio is a ratio that shows how much the company is able to pay off short-term debt without including the value of the company’s inventory. What is characteristic of this fast ratio is that it only uses cash and other cash equivalent calculations for its calculations. It should be noted that the quick ratio is a ratio that shows how much the company is able to pay off short-term debt using current assets without including the company’s inventory value.

This is because inventory takes a relatively long time to be converted into assets, for that the company puts aside inventory first. The calculation of the level of liquidity with a quick ratio only uses tangible assets such as cash and marketable securities as the main components.

If the quick ratio is in the top position, the financial condition must be in a stable condition. This shows that the company will find it easier to pay off its short-term debt with good financial conditions.

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Cash ratio and cash turnover ratio

The cash ratio is used to compare the company’s cash availability with its current liabilities or debts. It aims to measure the company’s ability to pay off its short-term debt.

As for the calculation in the cash ratio is cash funds such as checking accounts. If the condition of the cash ratio shows a balanced ratio or even higher, the company’s liquidity will be higher.

A high cash ratio is also a sign that the company’s financial condition is in good condition to pay off its obligations. While the cash turnover ratio can show a relative number which is the result of the number of product sales and working capital. M

The calculation of the cash ratio can be seen from the division of product sales figures with net working capital. This cash turnover ratio is used to provide an overview of the magnitude of the profits obtained by a company from working capital expenditures.

Working capital ratio

In a company, of course, a working capital ratio is needed to provide an overview of the level of liquidity owned by the company by looking at the amount of assets and working capital position to finance the company’s operations. The calculation of the working capital ratio is done by comparing the total assets owned by the company with liabilities. The results are then divided by the number of assets to see the level of company liquidity.