Evaluating Liquidity Flashcards
Define liquidity
The ability of a business to meet its short-term debts as they fall due
What three measures are used to measure the speed of liquidity?
Stock Turnover
Debtors Turnover
Creditors Turnover
What three measures are used to measure the level of liquidity?
Working Capital Ratio
Quick Asset Ratio
Cash Flow Cover
Working Capital Ratio definition
Measures the ratio of current assets to current liabilities, to assess the firm’s ability to meet its short-term debts.
Working Capital Ratio formula
Current Assets/Current Liabilities
Why should the WCR be at least 1:1
Because it indicates that there is at least $1 of current assets available to meet every $1 of current liabilities.
Explain one problem associated with an excessive WCR
An excessive WCR may indicate that the business has excess current assets that are idle, and not being employed effectively.
Quick Asset Ratio definition
Measures the ratio of quick assets to quick liabilities, to assess the firm’s ability to meet its immediate debts.
Quick Asset Ratio formula
Current Assets (excluding stock and Prepaid Expenses)/Current Liabilities (excluding Bank Overdraft)
Cash Flow Cover definition
Measures the number of times Net Cash Flows from Operations is able to cover average Current Liabilities
Cash Flow Cover formula
Net Cash from Operations/Average Current Liabilities
Stock Turnover definition
Measures the average number of days it takes for a business to convert its stock into sales.
Stock Turnover formula
Average Sales X 365/Cost of Goods Sold
Debtors Turnover definition
The average number of days it takes for a business to collect cash from its debtors.
Debtors Turnover formula
Average debtors X 365/Credit Sales
