Liquidity Ratio Analysis

Topics: Time, Asset, Balance sheet Pages: 2 (439 words) Published: August 31, 2013
To: Director’s of CFT Ltd
From: Accountant
Subject: Financial Analysis of CFT Ltd
Date: 4 October 2012

Liquidity ratio:
It’s focus on the solvency of the business and includes two ratio- 1. Current ratio
2. Quick assets ratio
If the liquidity level of a company is high then it means that the company has or can generate enough cash to meet its short term requirements for cash- it can easily pay its bills on time. On the other hand if the liquidity level is low then the company has difficulty in generating enough cash to pay its bills. 1. Current ratio:

The aim of current ratio is to perform a company’s ability to meet its short term financial debts out of its current assets and is calculated as follows-

current ratio=current assetscurrent liabilities

Different type of business requires different current ratio. As an example-a manufacturing business required a high ratio because it has to hold inventories of finished goods, raw materials and work in progress and normally they sell goods on credit which giving rise to trade receivables. So an ideal current ratio usually considered as 2:1. For CFT Ltd current ratio in 2012 is 1.28 times and in 2011 it was 1.09 times (see appendix).in 2012 inventories increase by 4500 which is 1.42 times more than 2011 while trade receivables decrease by 62%. 2. Quick assets ratio:

It’s also known as acid test ratio that determines whether a business has availability of short term assets to cover short term liabilities without selling inventories. The minimum level for this ratio is often stated as 1.0 times or 1:1 and calculated as follows-

acid test ratio=current assets(excluding inventories)current liabilities

in 2012 acid test ratio for CFT Ltd is 0.63:1 and in 2011 it was 0.69:1 which shows an decrease of 8.67% in the ratio. Current liabilities show an increase of 33.03% but they have to reduce their liabilities to achieve the minimal. Recommendation:...
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