2.3.3 Liquidity 🛍 Flashcards by Tiana Kariuki

What is liquidity?

The ability of a business to sell assets into cash to pay for current liability

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How is liquidity put in order in a financial statement?

Least liquid on top most important

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What are the two kinds of assets that you find?

Noncurrent asset intangible part for example a brand long-term Less liquid

Current asset short-term most liquid stock or cash- can be sold within 12 months

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What do public limited businesses and private limited businesses have to do with financial statements?

Have to publish accounts good if your investor allows people to see your financial position

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What is The current ratio formula?

Current assets / current liabilities

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What is the ideal value for current ratio?

1.5 - 2

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How do we express current and non-current ratio

In a ratio _ : 1

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What’s determines is a higher current asset?

The higher the money tied to stock

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What happens if a ratio is lower than the ideal value of 1.5 or 2?

Lower than ratio you cannot pay your bills or liabilities

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What is the acid test ratio formular ?

Current assets - inventory / current liabilities

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Why is the acid test harsh? what happens if the ratio is less than one

Cannot guarantee to sell stocks

less than one current assets cannot cover current liabilities?

Whoever is different if you’re in a business that has fast moving stock

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What are the eight ways we are able to improve liquidity?

Use of overdraft facilities

negotiate additional short-term or long-term loans

encourage cash sales and sell of stock sell and lease back

only make essential purchases

extend credit when selected suppliers

reduce personal drawings from the business

introduce fresh capital

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What are the advantages and disadvantages of using overdraft facilities to improve liability?

✅ increase the amount of cash that the business can overdraw improve cash flow

❌ there is a limit negotiation to increase the limit is time-consuming and uncertainty of undercapitalisation

no guarantee short-term cash flow problems with trading

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What are the positives and negatives of negotiating additional short-term or long-term loans?

Pos - Long-term can support your new expansion improve cash flow

pay back in smaller instalments

Neg- It’s short in cash reluctant
not guaranteed

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What are the positives and negatives of encouraging cash sales and sell of stock?

If so can sell stock of raw materials can be sold quickly through cheap costs reduced to stock it holds

negative - stocks sold not available for customers reduces the amount of sales and your capacity to meet demand

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What are the positives and negatives of sales and lease back?

Pos - Cash is raised business can continue to use assets can be used to free trapped money

Negatives -It’s time consuming to get up agreements expensive rate to pay for an asset long time

What are the positives and negatives of only making essential purchases?

Positives - keeps cash a business for longer reduces risk of overspending

Negatives - will have to make payments when put under pressure extended payments may put a strain onto the business

What are the positives and negatives of extending credit with selected suppliers?

Positives - saves cash if delays paying suppliers free up cash flow

Negatives -delay you’ll be seen as unreliable source suppliers news goodwill and lose your potential best suppliers

What are the positives and negatives of reducing personal drawings from the business to Improve liquidity?

Positives - reducing net cash flow is leaving the business helps the business owners they track on maintaining a business

Negatives - lack of personal satisfaction maybe to a decrease in motivation personal drawings don’t actually add onto the capital Still a risk of undercapitalisation

Are the positives and negatives of introducing fresh capital to improve liquidity?

Positives improve net cash flow certainty from friends and family of capitalisation

negatives- may be difficult as business is struggling not easy to persuade potential investors current owners have to provide

What are net assets?

total assets - Total liabilities

what are the two ways we can measure liquidity?

Current ratio and ratio acid test

What is working capital?

The amount of money needed to pay for day-to-day trading of the business

What is another name for working capital?

Circulating capital

It is working capital of the left overs of?

Current debts that have been paid

What is working capitals liquidity?

the relatively liquid assets of the business can be easily turned into cash

How much is working capital owed?

The money and buy a business is the need to be paid on a short-term to bank or creditors

How do we calculate working capital?

current assets - current liability

What can the amount of working capital in a business reflect ?

How well the business is performing For example if the business is failing to going to have a low level of working capital

what are the three things that differentiate the managing of the working capital?

Size of business- the larger the business the large amount of working capital there is likely to be an expanding the biggest for me to growing amount of working capital Stock level- businesses in different industries are likely toHave an amount of stock Debtors and creditors - time between buying stock finance by take a debt and selling products and is that your levels of working capital

What can lead to a business not being able to maintain adequate levels of working capital? 3)

when the business has not enough working capital - It’s the business does not have enough stock of raw materials - it could halt production and not have the capacity to fulfil orders If there is not enough cash in the business - cannot pay bill Borrow too much through trade credit- so may be unable to pay invoices when due

What happens when the business does notWant to much working capitalCurrent assets are too high current abilities are low

Stocks are costly to keep the most of the high cost of storing them Too much cash is bad because it’s very unlikely to have high rates of interest

How are Woking capital and cash flow problems not the same ?

Working capital problems arise from inability to pay back debtors Where as cash flow problems arise from not selling enough stock to generate inflows - leading to you to not have enough cash to pay bills

What does the statement of financial position or balance sheet provide a summary of?

Assets - the resources owned by the business such as equipment vehicles stock and cash liabilities- the debt of the business capital of the money put into the business by owners

What are the six sections of the statement of financial position or balance sheet?

Non-current assets - longtime resources and that include intangible assets Current assets - very liquid and tangible such as inventory , trade another receivables that money owed by the business or cash in one year current liabilities- money borrowed that needs to be repaid such as trade other payables noncurrent liabilities long term loans- mortgages Net assets - TL - TA shareholders equity - provide a summary of what is owned by the owners to owed to the owners of the business such as share capital

Why is cash important

Helps pay bills where As working capital help pay debtors

How do we calculate total equity?

Share capital + retained profit

What is the ideal ratio for acid ratio test ?

1 - 1.5