Any business needs money to run well and cash is considered the lifeline of the business. Liquid assets are known to provide stability to any business and to ensure continuity of business operations. Liquid assets are important, as they facilitate quick access to money to pay any dues. They are an important part of the financial profile of a business entity. So through this article information is being given about liquid assets and their role in business.
Liquid assets refer to assets that can be easily converted into cash. Liquid assets are easy to sell and they can be easily converted into cash without any loss in their value. Liquid assets help companies and businesses obtain cash to meet their business obligations. Traders should invest in some liquid assets, so that they can easily meet their cash requirements during an emergency. Cash is the highest form of liquid asset. This is followed by current accounts, government bonds, treasury bills, etc.
Importance of liquid assets
Companies are required to maintain a stock of liquid assets to meet their short-term liabilities. Current liabilities within one year can be met only when the company has sufficient liquid assets. These can be quickly converted into cash without any loss in value. Companies often compare the amount of liquid assets to the total amount of their current liabilities to measure their liquidity, this is known as the quick ratio (quick ratio). A low quick ratio means a lack of liquid assets. In this case, the business may face liquidity problems while covering its short-term liabilities.
Liquid assets formula
Small businesses are required to calculate the net worth of liquid assets, as they can cover unexpected expenses through it. This information is also useful for lenders, as it allows them to decide whether to lend money to a business or not. Higher net worth makes any business worthy of creditors. This means that you can easily repay your loan. The following equation is used to calculate the liquid net worth of businesses (liquid net worth) –
Total Liquid Assets – Total Debts (Liabilities) = Total Net Worth (Total Net Worth)
- Total liquid assets here represent the total assets held by a business entity such as cash and accounts receivable.
- Total liabilities represent total debt ie credit card debt, total mortgage or unsecured debt etc.
List of liquid assets
By definition some liquid assets are as follows –
- Current account
- Bank note
- Account resolvable
- Demand deposit
- Prepayment insurance
- Securities maturing within 90 days
- Stock and mutual funds etc.
Why liquid assets are important for business?
Liquidity would have been important in financed businesses. Businesses large and small can easily obtain cash and meet emergency financial requirements. Liquid assets are instruments that can be easily converted into cash without losing value. Liquid assets are a part of business working capital. Liquid assets have to be maintained to pay for business operations and other expenses. Businesses with more liquid assets are seen as better investment opportunities by credit institutions. Such businesses have a better ability to pay business loans. Liquidity is also important to deal with economic conditions like recession or inflation. All small businesses must have a stock of liquid assets to cover 2-3 months of business obligations. However, it is important to keep liquidity under control. If you have more liquid assets, it can be helpful to grow the business, but if you have less liquid assets, then you may face trouble.
Benefits of liquid assets
- Liquid assets help to meet business liabilities and short-term liabilities.
- Liquid assets play an important role in times of emergency financial needs.
- When a business entity applies for a loan, liquidity is important. The lender assesses the liquid assets owned by the business to determine the creditworthiness of any business. When a company has sufficient liquid assets, the probability of the company paying off the debt easily increases even in times of temporary financial crisis.
- To have a good financial profile, it is necessary to have sufficient assets.