The term liquidity refers to your ability to quickly move and use cash or easily converted assets in order to make payments.
Some assets, like real estate, vehicles and similar collateral are not that easy to sell and it usually takes time for you to complete the process.
Liquidity, on the other hand, is mainly concerned with your ability or inability to make instant (or nearly instant) payments should the need arise.
In other words, it depends on your easily movable (this is where the name stems from) assets. The survival rate of a small business greatly depends on it and the SMB market in New Zealand was never more competitive than it is today.
So, here’s a brief small business guide to liquidity management.
Cash and Cash Equivalents
The first thing you need to understand about liquidity is the fact that the most efficient liquid assets are definitely the cash and cash equivalents. Under cash equivalents, we consider stocks and marketable securities, bonds, mutual funds, and money-market funds. Generally speaking, any investment that has a maturity of fewer than 90 days can be considered an efficient liquid asset. This is due to the fact that they can be readily converted to cash at your own behest at any given moment.
Are Materials Liquid Assets?
One of the first questions that the majority of people ask while on this topic is – are materials liquid assets? This question isn’t an easy one to give an answer to. On the one hand, you can sell materials for cash, yet, should you wait to transform them into a product, you would stand to earn a lot more. Other than that, you would also have to re-buy these materials on a later date, which means that you’re putting yourself at an even greater loss. In other words, materials are liquid assets, albeit not efficient ones.
How Credit Rating Affects Liquidity
In general, the relationship between the loan and the liquidity is a complex one. On the one hand, your ability to get the loan increases your liquidity, seeing as how you can get your hands on a reliable quantity of cash at a moment’s notice. On the other hand, once you do get a loan, your diminished odds of getting another one negatively affect your liquidity. Therefore, if your ability to get a loan increases your liquidity, boosting your credit score would be an amazing idea. The quickest way to do so is to go through lenders when you need some cash and get a loan that you can repay in under a year. This way, you won’t get yourself in too much debt and you’ll be able to substantially improve your credit rating.
Start Considering this Issue Early on
The best way to properly handle your liquidity is to start thinking about it as early as possible. Namely, you need to plan and organize your assets in order to have a contingency plan at every time. Starting an emergency fund and a savings account would be the best two methods to handle it. Other than this, mechanisms like factoring, collaborating with a debt collection agency and downsizing your operations in order to reduce your overhead in moments of crisis. All in all, these mechanisms are something that you need to prepare ahead of time, instead of having to improvise later on. Improvised solutions usually produce less value, which, automatically, makes them less liquid.
Improve Your Cash Income
The next thing worth considering is the fact that you need to improve the influx of cash by any means necessary. For instance, if the average value of an offer is lower than $75, chances are that your audience will make immediate payments instead of opting for credit payments option. The latter is quite bad for your liquidity (even though it increases your profitability in the long run) due to the fact that you need to spend the full amount of resources to produce goods/perform services while having to wait for several months for the return.
Keep Records of All Your Spending
One of the biggest oversights made by your financial planners is the idea that all your income is, somehow, a liquid asset. In truth, a lot of your income is already tied to fixed expenses. You need to pay salaries, utilities, rent payments, supplies, etc. Money that’s owed for this is the money that you can’t count on. In order to know exactly what you’re dealing with, you need to keep itemized records of all your spending. When it comes to this, some people make the mistake of generalizing and labeling this as tax and expense purposes. The more insight you get, the more efficient your liquidity management will become. Other than this, should you decide to cut down some of your spendings, this will make it a lot easier for you to do so.
It goes without saying that liquidity management might just be the path to your company’s survival. The ability to move funds and assets in moments of need provides your company with the flexibility to bend where all its competitors would break. This adaptability also allows you to make last-minute adjustments and keep up with the changes in the market.