Importance of Liquidity Ratio: 10 Key Reasons & Case Studies from the Malaysian Stock Market

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The liquidity ratio is a financial metric that measures a company's ability to pay short-term liabilities using its most liquid assets such as cash and cash equivalents. It is a key concern for investors, creditors, and management as it reflects financial stability and the company's ability to weather economic challenges. In the context of the Malaysian stock market, monitoring the liquidity ratio is essential to ensure listed companies remain competitive and capable of meeting their financial obligations. In the world of investing and corporate management, the liquidity ratio is one of the most important indicators for assessing the financial health of a company.
This ratio indicates a company's ability to convert current assets into cash to pay short-term liabilities. The higher the liquidity ratio, the stronger the company's financial position and the greater the confidence of investors and stakeholders in that company.
Example: Performance of I-REITs on Bursa Malaysia
A study of two Islamic Real Estate Investment Trusts (I-REITs), namely Al-'Aqar KPJ REITs and Al-Hadharah Boustead REITs on Bursa Malaysia, found:
Al-Hadharah Boustead REITs showed a declining trend in liquidity ratio from 2007 to 2009, with a cash ratio as low as 0.054 in 2008. This indicated higher liquidity risk and a limited ability to pay short-term debts.
Al-'Aqar KPJ REITs showed a stable current ratio of around 1.03 to 1.11 from 2006 to 2009. This means the company was able to pay RM1.11 for every RM1 of short-term debt in 2009. The quick ratio and cash ratio also remained satisfactory, except for a slight decline in 2008 (0.94 times).
The liquidity ratio is an important tool for assessing a company's financial health, particularly in the competitive Malaysian stock market. It not only helps companies plan and manage their finances more effectively but also gives investors and stakeholders confidence that the company can survive in various economic situations. Continuous monitoring and management of the liquidity ratio is the key to the sustainability and success of listed companies.
The liquidity ratio is an important tool for assessing a company's financial health, particularly in the competitive Malaysian stock market. It not only helps companies plan and manage their finances more effectively but also gives investors and stakeholders confidence that the company can survive in various economic situations. Continuous monitoring and management of the liquidity ratio is the key to the sustainability and success of listed companies.
The liquidity ratio measures a company's ability to pay short-term debts using liquid assets. It is important because investors can assess whether a company is at risk of cash flow problems or is capable of surviving during an economic downturn.
Generally, a current ratio exceeding 1.5 is considered healthy. However, it depends on the industry — utility companies may have a lower ratio compared to technology companies. Investors should compare against the industry average.
The current ratio is calculated by dividing current assets by current liabilities. The quick ratio excludes inventory from current assets. Both formulae can be derived from the company's quarterly financial statements on Bursa Malaysia.
Yes, an excessively high liquidity ratio may indicate the company is not using its assets efficiently. Excess cash that is not reinvested could mean the company is missing out on better growth opportunities.
Understanding the liquidity ratio is a fundamental step in stock fundamental analysis. With this skill, you can filter companies that are financially strong and make more confident investment decisions on Bursa Malaysia.
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