An organization can easily depict its financial status by use of financial ratio
ID: 2612869 • Letter: A
Question
An organization can easily depict its financial status by use of financial ratios. The most common are the Liquidity ratios which entail current ratio and the quick ratio. The current assets and current liabilities ratio is known as the current ratio. The quick ratio is similar to the current ratio only it doesn’t involve the firm’s inventory in the calculation of total current assets. High liquidity ratios show that a firm has the capability to pay off all its debtors with the current assets and still have money to spare for the business operations. Low liquidity ratios however show that the firm, if asked to, cannot, or would struggle to pay off their debts and still have funds for operation. The higher the liquidity ratio, the better the chances for a firm to get loans and the lower the liquidity ratio, the slimmer the chances of the firm to be funded through loans. Funds can be used for development of projects of the firm. This means that with a high liquidity ratio, the owners can plan on development projects as they can be assured of a source of funding. If the liquidity ratio is low, the planners can adjust accordingly to increase their ratio by, for instance, pausing some development projects. This doesn’t always hold true since some lenders don’t consider the liquidity ratio when funding firms. A firm can hence prepare for development projects and never see their implementation due to less funds. (Net MBA, 2010)I need response for this paragraph! An organization can easily depict its financial status by use of financial ratios. The most common are the Liquidity ratios which entail current ratio and the quick ratio. The current assets and current liabilities ratio is known as the current ratio. The quick ratio is similar to the current ratio only it doesn’t involve the firm’s inventory in the calculation of total current assets. High liquidity ratios show that a firm has the capability to pay off all its debtors with the current assets and still have money to spare for the business operations. Low liquidity ratios however show that the firm, if asked to, cannot, or would struggle to pay off their debts and still have funds for operation. The higher the liquidity ratio, the better the chances for a firm to get loans and the lower the liquidity ratio, the slimmer the chances of the firm to be funded through loans. Funds can be used for development of projects of the firm. This means that with a high liquidity ratio, the owners can plan on development projects as they can be assured of a source of funding. If the liquidity ratio is low, the planners can adjust accordingly to increase their ratio by, for instance, pausing some development projects. This doesn’t always hold true since some lenders don’t consider the liquidity ratio when funding firms. A firm can hence prepare for development projects and never see their implementation due to less funds. (Net MBA, 2010)
I need response for this paragraph!
I need response for this paragraph!
Explanation / Answer
There are two types of liquidity ratio. One is current ratio and the other is liquid ratio.
Current ratio = Current assets / Current liabilities
Quick ratio = (Current assets – Inventory) / Current liabilities
Current assets = Cash + Accounts receivables + Inventory
Current liabilities = Accounts payable + Bank overdraft + All short term debts
Common standards of current ratio and quick ratio are 2:1 and 1:1 respectively.
It indicates the availability of current assets for each current liability. As per the standards, there are $2 current assets and $1 liquid asset for each dollar of current liability. Therefore, higher liquidity ratio indicates better financial strength.
Financial institutions used to provide loans to the company having a good liquidity ratio. The loans will not be provided if the ratios have below standards.
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