Analysis of liquidity of the enterprise

The liquidity analysis of an enterprise is an analysis of the liquidity of its balance sheet.

Liquidity of the balance is the degree of coverage of the enterprise's liabilities with assets, the term of which is converted into cash in accordance with the maturity of liabilities. The solvency of the enterprise depends on the degree of liquidity of the balance sheet.

Why is it necessary to conduct liquidity analysis?

The task of analyzing the liquidity of a balance sheet in the course of analyzing the financial condition of an enterprise arises in connection with the need to assess the creditworthiness of an enterprise, i.e. its ability to timely and fully settle for all its liabilities, since liquidity is the ability of an enterprise to pay its short-term obligations by realizing its current assets.
Liquidity indicators meet the interests of various external users of analytical information. For suppliers of raw materials and materials, the absolute liquidity ratio is most interesting. The bank that lends to the organization pays attention to the coefficient of intermediate liquidity. Buyers and holders of the company's shares are more likely to assess financial stability by the current liquidity ratio.

How is balance liquidity analysis performed?

The analysis of the liquidity of the balance sheet consists in comparing the assets for the asset, grouped according to the degree of their liquidity and located in order of decreasing liquidity, with liabilities on liabilities, grouped by maturity and arranged in order of maturity. All assets of the firm, depending on the degree of liquidity, i. e., the rate of conversion into cash, can be conditionally divided into several groups.

1. The most liquid assets (A1) are the amounts for all cash items that can be used to perform current settlements immediately. This group also includes short-term financial investments.
2. Quickly realized assets (A2) are assets that require a certain amount of time to circulate in cash. This group can include accounts receivable (payments on which are expected within 12 months after the reporting date), other current assets.
3. Slowly sold assets (A3) - the least liquid assets - are inventories, accounts receivable (payments are expected more than 12 months after the reporting date), value added tax on acquired valuables, while the item "Expenses of future periods" is not included in the This group.
4. Hard assets (A4) are assets that are intended for use in economic activities for a relatively long period of time. This group includes the articles of Section I of the asset of the balance sheet "Non-current assets".

The first three groups of assets during the current economic period can constantly change and refer to the current assets of the enterprise, while the current assets are more liquid than the rest of the enterprise's property.

The liabilities of the balance sheet in terms of the increase in the maturity of liabilities are grouped as follows.

1. The most urgent obligations (P1) are accounts payable, settlements on dividends, other short-term liabilities, and loans that are not repaid on time (according to the appendices to the balance sheet).
2. Short-term liabilities (P2) are short-term loans from banks and other loans due for repayment within 12 months after the balance sheet date. When determining the first and second groups of liabilities to obtain reliable results, it is necessary to know the time of execution of all short-term obligations. In practice, this is possible only for internal analytics. With external analysis, because of the limited information, this problem is considerably complicated and is solved, as a rule, on the basis of the previous experience of the analyst performing the analysis.
3. Long-term liabilities (P3) - long-term loans and other long-term liabilities - items of section IV of the balance sheet "Long-term liabilities".
4. Permanent liabilities (P4) are the items of Section III of the balance sheet "Capital and Reserves" and certain items of Section V of the balance sheet that are not included in the previous groups: "Deferred Revenues" and "Reserves for Future Expenses". To maintain the balance of assets and liabilities, the result of this group should be reduced by the amount under the items "Deferred expenses" and "Losses".

To determine the liquidity of the balance, you must compare the results for each group of assets and liabilities.