The treasury is known as the fundamental part of the assets of a business entity. This also refers to the area of any company in which the main function is to organize and manage each and every one of the actions that are related to the operations of the monetary flow or it can also be the cash flow.
The treasury ratio is recognized as the quantified relationship that exists between two magnitudes and that allows us to glimpse their proportion. In economics, the ratio is known as the quantitative relationship between any two phenomena that you want and that allows us to glimpse a specific event of investment level, profitability, etc.
To the concept of cash ratio It has already been given several definitions, but to understand what it is and how it works, a basic concept is required to start with, the treasury ratio is a relationship that allows us to measure the ability of a company to face a payment or a series of payments whose expiration is usually short-term. This specific ratio shows us the capacity of our business entity to pay those debts that are established with a maturity of less than one accounting year, this with the debts and the amount available in favor of the company.
The cash ratio is one of the liquidity ratios that are most used to know the liquidity situation of a business entity, this means that it is; the possibilities that the company has to make short-term payments, as we have already mentioned, the liquidity ratios are three that we will mention below:
Immediate cash ratio or "availability ratio".
It is defined by different lawyers of economic theory and accounting theory as the quotient of the division of both amounts: "available" and "current liabilities".
Available current liabilities = availability ratio.
This ratio indicates that the company may or may not have the ability to face short-term debts, this only with its available or treasury.
Technical solvency ratio or "liquidity ratio".
It is also defined by the different lawyers in economics and accounting theory as the quotient resulting from the division of both quantities:
“Current assets” and “current liabilities”.
Current assets ÷ current liabilities = liquidity ratio. This ratio represents the capacity that a company has to meet the payments that derive from the enforceability of current liabilities, this due to the collections that have been generated by current assets. The company is considered to have no liquidity problems when the value of the liquidity ratio is approximately greater than or equal to 1,5 (? To 1,5), or less than or equal to 2 (? To 2).
In the possible case that the liquidity ratio indicates to be less than 1,5 (? To 1,5), the company has a greater probability of making a suspension of payments, which indicates very low liquidity to cover payments less than an accounting year.
It is common to fall into the error of believing or estimating that with a liquidity ratio of 1, short-term debts would be attended and paid without problems, this however is a mistake, since the difficulty of selling all short-term stocks, In addition to delinquency by customers, they indicate that the working capital becomes positive and that for this same reason current assets are higher than current liabilities, this from a conservative point of view may be sufficient.
If the situation occurs in which the liquidity ratio is greater than 2, it could indicate that there are "Idle current assets" which can directly affect profitability and generate losses.
Treasury ratio. It is also defined by connoisseurs of economics and accounting theory as the sum of the available plus the realizable, this divided by current liabilities.
(“Available” + “realizable”) ÷ (current liabilities).
This is an indicator of the capacity of the business entity to face short-term debts or less than one accounting year, for this, counting on current assets, it must also be taken into account that stocks of inventories are not included. It should be taken into account that to consider that a company does not have liquidity problems, the value of the cash ratio must be 1, this of course being an approximate of what is optimal for the operation of the company.
If the cash ratio is less than 1 (? To 1), the company runs financial risks, such as suspending payments due to insufficient possession of liquid assets to defray the debt and / or its payments. If the opposite is the case to the previous one, in which the cash ratio is higher or much higher than 1, it is an indicator that there is a possibility that there is an excess of liquid assets, which would cause a loss of profitability of the same assets.
The solvency ratio and the cash ratio
Both ratios are in charge of showing us the level of solvency that a company has to pay its debts, to put it simply; how easy it is for the company to pay what it owes on time and thus not generate interest, all within a short-term period. There is a fundamental difference to understand that both fulfill a similar function, but in a different way. Regarding the meaning of “treasury ratio”, only short-term debts (less than one year) are considered, this is compared with the resources that the company has, liquid resources, or that may even be within a period short term. With this we can see that the treasury ratio is responsible for measuring the solvency of the company to pay its debts in a more immediate period of time.
The fundamental difference between the two is highlighted in the solvency ratio, with its comparison of all the assets of the company with the liabilities, thus making a demonstration of the proportion that involves all the assets and rights of the company contrasting with the debts and obligations of this. The solvency ratio is by itself, an indicator that does not refer to the distinctions of debts with a short or long term, nor does it distinguish between assets that are liquid and those that are not, it is a more general ratio and less specific than the treasury ratio, its function is similar but its efficiency is different.
How to calculate the cash ratio correctly?
Of course, to carry out an operation like this is simply a matter of arithmetic knowledge, however, we must not stop taking into account the knowledge that we have in economics and accounting theory, a lot of data is needed to arrive at this simple operation.
The formula that we would use to calculate the cash ratio is the one shown below:
Available + Realizable ÷ Current liabilities = Cash ratio.
Don't you understand these concepts or terms?
As we mentioned before, even if you have been aware of economic and accounting theory, the concepts are easily forgotten, for that we leave you here the simplified meaning of each of the concepts present in the company's balance sheet:
- It is money, what we know and call the company's “liquid”.
- They are the assets and rights that are quickly transformed into money, it is understood by this that we speak of debtors, investments and clients, all in the short term.
- Current liabilities. They are obligations and debts that have a short-term due date.
One of the main problems that a business entity may have is the lack of solvency to cover the debts, a company that is not capable of maintaining financial stability is the same one that owes and stops paying and therefore owes more and more in interests, this company will hardly get out of this situation if its financial and accounting planning was not adequate, therefore, we recognize the importance of ratios such as the cash ratio. A company that solves, perhaps not quickly, but with constant efficiency and capacity, is a company that speaks well of itself in an accounting way, it becomes a company that attracts partners and lenders, due to its trust and reliability, highlights commitment and planning that currently represent a very strong economic asset for any investor and / or lender. It is important to mark the cash ratio as a useful tool to know the positioning of our company and what are the actions that we can take as soon as possible.
It is considered that a treasury ratio marks a company in its optimal solvency when it is around 1. When this happens, the company is in a situation in which the relationship between liquidity and realizable, and the maturities of short debts term approach or resemble 1.