What does liquidity mean for your small business?
Liquidity is a common term used when discussing how healthy your business finances are. But what is liquidity, why is it so important for your business, and how will your cash flow affect it?
What does liquidity mean?
Liquidity means how much you could pay off your current debts (liabilities) with your current assets. These liabilities could be rent, bank loans, utility bills, or similar. Liquidity usually refers to the liabilities and assets over a short term, year long period. To have healthy liquidity, you should be able to easily pay off your liabilities with your current assets.
Cash is the most liquid asset as this could be paid off quickly. Similarly, stocks and bonds could be converted to cash fast. But, other assets such as machinery etc would take longer to convert to their market value in cash. Some assets may not be worth their full value in cash, so it’s worth taking this into account before you invest in new assets.
Why does liquidity matter?
Having a good liquidity in your business can help you have good credit, so you can get business loans. It will also allow you to plan for the future of your business, allowing you to invest strategically and make informed financial decisions. On the other hand, if you have bad liquidity then you could struggle to pay your bills and meet the financial demands of your business.
How does cash flow affect liquidity?
Keeping an eye on your cash flow will help you measure the liquidity of your business. Cash flow is the money moving in and out of a business, so knowing how healthy your cash flow is will help you keep your liquidity positive, as cash is your most liquid asset. Here are some tips to manage and improve your cash flow, which will help your liquidity too.