LIQUIDITY MANAGEMENT Presentation by: CPA Richard Kamami Secretary, PSB,Murang a PSB 23rd November 2017 Uphold public interest
Outline Definitions Assessment of Liquidity Criticism Liquidity Management Strategies Conclusion
Definition Definition Liquidity refers to the ability of an organisation to meet cash as well as other obligations without incurring considerable losses. Liquidity management is therefore the appropriate administration of an entity s cash and other assets to be able to meet its current liabilities.
Definition-Cont d Having funds available to meet all known and unknown commitments -In the right currency -In the right place -At the right time Minimise cost of funds and debit interest Maximise use of surplus funds and interest earnings
Definition-Cont d Should be seen As always a balance between the costs and benefits of having liquidity and the costs and benefits of lacking liquidity For this reason it is essential for all organisations to have some form of liquidity management strategy in place.
Assessment of Liquidity Key Terms-Solvency Versus Liquidity Solvency relates to a company's overall ability to pay debt obligations and continue business operations, while Liquidity focuses more on current financial accounts. A company must have more total assets than total liabilities to be considered solvent and more current assets than current liabilities to be considered liquid.
Ratio Analysis 1. Current Ratio The current ratio considers the current total assets of a company (both liquid and illiquid) relative to that company s current total liabilities. The formula for calculating a company s current ratio is: Current Ratio = Current Assets / Current Liabilities Anything 1:1 is acceptable Ideal: 2:1
Ratio Analysis 2. Quick Acid Test Ratio The quick ratio measures a company s ability to meet its short-term obligations with its most liquid assets. For this reason, the ratio excludes inventories from current assets, and is calculated as follows: Quick ratio = (current assets inventories) / current liabilities, or = (cash and equivalents + marketable securities + accounts receivable) / current liabilities
Ratio Analysis 3. Net Working Capital Net working capital is a financial metric a business owner should use in order to help measure the cash and operating liquidity position of the business. It is the sum of all current assets and current liabilities. It is a measure of the short-term liquidity of a business, and can also indicates the ability of company management to utilize assets in an efficient manner.
Ratio Analysis 4. Cash Ratio Cash ratio = (Cash + Marketable Securities)/Current Liabilities The cash ratio, the most stringent and conservative of the three, allows only the most liquid of assets -- cash and marketable securities -- as offsetting assets against liabilities, Whereas both the current ratio and the quick ratio allow other assets to count against liabilities as well.
Ratio Analysis 5. Average Collection Period ACP-365/Debtors Turnover-No. of Days Debtors T.O-Cr Sales/Average Debtors-It gives the proportion of sales that are held out as unpaid debt.
Ratio Analysis 5. Average Payment Period APP-365/Creditors Turnover-No. of Days Creditor T.O-Cr Purchases/Average Creditors-It gives the proportion of purchases that are unpaid.
Critiques Comparability between different companies No reasons given for cause of changes Ratios based on Book value Ratios do not measure quality of management etc
Liquidity Management Having funds available to meet all known and unknown commitments -In the right currency -In the right place -At the right time Minimise cost of funds and debit interest Maximise use of surplus funds and interest earnings
Liquidity Management How may a company improve liquidity? i. External -Through borrowing -Through suppliers
Liquidity Management How may a company improve liquidity? ii) Internal -Better practices on inventory, receivables short term investment -Better control of cash resources around the group
monthly and corrective action taken Liquidity Management At Board level, liquidity risk management should constantly feature as an agenda regularly. IARG committee should have this as a standard agenda item that is evaluated
Conclusion Entities that fail to manage Liquidity will always have serious hiccups in their operations that sometimes results in them going under.
QUESTIONS?