2.3.2 Liquidity Flashcards
statement of financial position
(balance sheet)
2 things
- net worth of a business (records assets/liabilities)
- raised capital & used capital
two sides of a balance sheet
NET ASSETS:
(Non current assets + Current assets - Current liabilities- Non current liabilities)
TOTAL EQUITY
Share capital + Reserves (retained profit over years)
net assets
must equal total equity (both figures must be balanced)
non-current and current assets
NON-CURRENRT: own long time
e.g land, building, plant, property, equipment, machinery, goodwill/other tangibles (customer base) and brand name
CURRENT: (quick and easy to turn into cash)
e.g. cash balances/cash equivalent, trade debtors (receivables), inventories (stock), short term investment
current and non-current liabilities
examples
CURRENT: debt must be paid within year
e.g. trade creditors (payables), overdraft, tax, ST loan
NON-CURRENT:
e.g long term borrowings/liabilities (loan/mortage)
creditor and debtors
creditor = payables
debtor = receivables
3 accounts
statement of comprehensive income (PAST)
statement of financial position (PRESENT)
cash flow forecast (FUTURE)
net assets equation (also working capital)
non current assets + (current assets - current liabilities) - non current liabilities
working capital (net current assets)
-net current assets
-day to day finance (funds to meet business needs)
-cash moving through cycle = enough for future
-measure of liquidity
current assets - current liabilities
total equity
total amount of money invested in business from share capital and retained profit
share capital + retained profit
least liquid current asset
in statement of financial position = inventories
liquid = turn to cash
-commenting on business liquidity position = look at net current assets
goodwill
reputation for good quality included as good will in intangible assets
equity capital
share capital and retained earnings
interpreting statement of financial position
3 things
- short term net current assets
- each section
- compare borrowed money with equity
liquidity ratios
able to meet its short term liabilities & debts
- business’ cash position (pay bills?)
- making profit but unable to pay bills
- current ratio
- acid test
current ratio
ability to meet debts over next year
current assets divided by current liabilities
ideal value 1.5:1
-varies on types of business
(fast food/banks = lower, deal in cash) (manufacture higher = lots of stock)
acid test
very short term liquidity
-more accurate indicator
inventories = less liquid than cash
current assets - stock divided by current liabilities
ideal values 1:1 larger than 1 as trade mainly in cash.
problems with liquidity
high and low
- low = risk from insolvency
- high = X adv of possible inv opportunities
if liquidity ratio is low?
- hard to pay bills
- bring more cash into balance sheet
measure of liquidity
ability to convert an asset into any form usually cash without any delay
5 stages of liquidity cycle/working capital cycle
- capital injection
- produce goods
- sell to customers (credit or cash) (if credit = delay)
- customers pay (receivables) (delay if dont pay on time)
- buy materials (delayed if given trade credit)
3 reasons why working capital is important to a business?
different businesses
1-day to day, machines/stock etc
2-pay wages/bills
3-long working capital cycle= incur costs (unpredictable)
- small business: large firms delay = limited funds
- expand business: expenditure = working capital
5 causes of working capital problems
1-external/internal changes
2-high start costs,expansion/extra orders (quickly)
3-customers credit but supplier not giving credit
4-too much stock/failing to control levels
5-poor control of creditors and debtors
6 ways to improve working capital
1-uncertainty
2-minimise fixed assets
3-minimise stock (effective management)
4-customer credit low much credit from suppliers (goods quicker = quicker payments)
5-cut production costs, sale &leaseback/ redundant asset
6-negotiate additional short term loans (financial planning)
liquidity
ability of a business to find cash needed to pay bills
working capital
current assets - current liabilities
5 ways to improve liquidity
- sell under used fixed assets (sell and lease back)
- raise more share capital (cash)
- increase long term borrowings (reduce CL/loans)
- postpone planned investment
- reduce customer trade credit & increase own
