Liquidity management helps the business make good operational decisions and navigate unforeseen business risks while avoiding insolvency. It also enables companies to take advantage of business opportunities as they arise, providing a competitive advantage.
Liquidity management works hand in hand with spend management, which takes a unified, cumulative view of financial resources across an organization. Spend management looks at accounts payable via a source-to-settle process that covers procurement, treasury, and finance departments. Accurate liquidity management requires insights into liabilities, cash, spend, and other transactions. This requires accurate, real-time financial information that can easily be accessed on demand.
Why is Liquidity Management Important?
Liquidity management helps companies access cash when they need it, regardless of the level of financial maturity. This cash (liquid assets) may be used to cover debt obligations, to pay for merchandise or services, or for short-term investing. Finance teams use liquidity management to strategically move funds where they are needed. For example, a CFO may review the balance sheet and see that funds currently tied up in one area can be moved to a critical short-term need to maintain day-to-day operations.
Liquidity management extends beyond a cash management strategy. Finance teams can also tap into hidden yield within supply chains. More financially mature organizations typically use this strategy if they can access the right supply chain management insights. This broader, more complex view of liquidity management allows companies to measure anticipated (and sometimes unanticipated) cash requirements that could impact liquidity. This includes missed sales targets, lump sum payments, slow inventory turnover, and variations in supply and demand.
How Does Liquidity Management Impact the Bottom Line?
Liquidity management can help finance executives get total visibility into financial data and create more accurate scenario analysis and cash forecasting. Since it also ties into supply chain management, liquidity management can help businesses make tough decisions when faced with unforeseen circ*mstances or other uncertainties.
Supply chain issues during the pandemic, for example, took many companies by surprise. Without proper liquidity management, volatility in the supply chain left many businesses strapped for options – and cash. With a good handle on liquid assets, however, some companies were able to take fast action and minimize disruptions to business.
Other ways liquidity management can help derive value from supply chains include:
- Collaborations between treasury and procurement to offer early pay discounts.
- More precise payment timing management to maximize liquidity. Treasury can work with AP to implement ideal payment terms that increase cash on hand.
- Multilateral netting and automatic reconciliation help finance teams free up cash.
In today’s real-time and often remote world, the question of the day is, “What is our current cash position?” Liquidity management provides critical cash visibility that helps businesses quickly understand how to fund daily operations. Dynamic liquidity management has moved to the forefront as finance teams rely less on historical data and more on real-time and future cash flows.
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FAQs
Liquidity management is the proactive process of ensuring a company has the cash on hand to meet its financial obligations as they come due. It is a critical component of financial performance as it directly impacts a company's working capital.
What is liquidity your answer? ›
Liquidity refers to the efficiency or ease with which an asset or security can be converted into ready cash without affecting its market price. The most liquid asset of all is cash itself.
What answer best describes liquidity? ›
Answer and Explanation:
A firm's liquidity indicates the ability of a company in meeting its current obligations using its liquid assets.
Why is liquidity management important? ›
Objectives of liquidity management are to ensure that the business has cash on hand to fulfill its financial obligations and weather the storm during both anticipated and unexpected events, like supply chain disruption or abrupt drop in sales, without enduring significant losses.
How do you manage liquidity management? ›
Best practices for liquidity management
- Review financial statements regularly. ...
- Inventory management and supply chain management. ...
- Accounts receivable (AR) and Accounts Payable (AP) management. ...
- Minimizing expenses. ...
- Unlocking 'trapped' cash. ...
- Centralizing financial data.
Definition: Liquidity means how quickly you can get your hands on your cash. In simpler terms, liquidity is to get your money whenever you need it. Description: Liquidity might be your emergency savings account or the cash lying with you that you can access in case of any unforeseen happening or any financial setback.
What is the best way to describe liquidity? ›
Liquidity refers to how easily or efficiently cash can be obtained to pay bills and other short-term obligations. Assets that can be readily sold, like stocks and bonds, are also considered to be liquid (although cash is, of course, the most liquid asset of all).
What is the best example of liquidity? ›
What is liquidity?
- Cash: Typically, cash is a company's most liquid asset because it requires no conversion to pay debts.
- Investments: A company may have a variety of investments, such as bonds, commodities and stocks, which it can convert to cash.
Liquidity is a company's ability to convert assets to cash or acquire cash—through a loan or money in the bank—to pay its short-term obligations or liabilities. How much cash could your business access if you had to pay off what you owe today —and how fast could you get it?
Is liquidity good or bad? ›
Financial liquidity is neither good nor bad. Instead, it is a feature of every investment one should consider before investing. Modern portfolio theory revolves around owning a range of assets that diversify one's portfolio while maximizing the return given one's risk tolerance.
Finance teams use liquidity management to strategically move funds where they are needed. For example, a CFO may review the balance sheet and see that funds currently tied up in one area can be moved to a critical short-term need to maintain day-to-day operations.
What is the main liquidity management? ›
Investors, lenders, and managers all look to a company's financial statements using liquidity measurement ratios to evaluate liquidity risk. This is usually done by comparing liquid assets—those that can easily be exchanged to create cash flow—and short-term liabilities.
What is liquidity management for dummies? ›
Liquidity management is the proactive process of ensuring a company has the cash on hand to meet its financial obligations as they come due. It is a critical component of financial performance as it directly impacts a company's working capital.
What is the liquidity management rule? ›
Liquidity Management Rules: Current and Proposed
This bucketing process requires funds to determine how many days it would take them to sell or convert to cash a reasonably anticipated trade size of each investment, factoring in the potential impact on the investment's market value as well as other considerations.
What is liquidity management risk? ›
Liquidity risk management defined
Assess its ability to meet cash flow and collateral needs (under normal and stressed conditions) without negatively affecting day-to-day operations, overall financial position or public sentiment.
What are liquidity management tools? ›
What are liquidity management tools? Liquidity management tools are measures designed to enable a KVG to manage its liquidity in a fund. These measures are. Swing pricing.
What does by liquidity mean? ›
What do you mean by Liquidity? Liquidity is the degree to which a security can be quickly purchased or sold in the market at a price reflecting its current value. Liquidity in finance refers to the ease with which a security or an asset can be converted into cashat market price.
What is liquidity quizlet? ›
What is liquidity? How quickly and easily an asset can be converted into cash.
What is liquidity in business? ›
What is business liquidity? Business liquidity is your ability to cover any short-term liabilities such as loans, staff wages, bills and taxes. Strong liquidity means there's enough cash to pay off any debts that may arise.
What is liquidity in short-term? ›
A liquidity ratio is a financial metric used to assess a company's ability to pay off its short-term financial obligations using only its existing assets. These short-term obligations, also called “current liabilities,” are debt obligations that must be paid within a year (or within a company's current fiscal year).
