Liquid, Profitable and Solvent: Company Importance

Subject: Company Information
Pages: 2
Words: 286
Reading time:
< 1 min

It is best when the company can be both solvent, liquid, and profitable; however, in a competitive and changing business environment, this situation is not always realistic. In the short term, it is most important for a company to be liquid since liquidity means the ability of an organization to pay short-term obligations and sell assets to raise money quickly. At the same time, solvency is a company’s ability to pay long-term obligations, and profitability means the excess of income over expenses. Consequently, in general, a company must be profitable, since suffering from losses, it will eventually be unable to pay either long-term or short-term obligations.

However, in the short term, liquidity is more critical as short-term liabilities can be temporarily paid off from a company’s reserves, which can later be replenished with profits. For example, a company can pay compulsory contributions from reserves to creditors or suppliers for six months and receive zero profit while manufacturing goods. Six months later, the company will sell the product and receive income that covers all costs. Nevertheless, if short-term obligations are not paid, this situation can create debts and stop a company’s activities before getting profit.

Any account has a debit and credit and their balance, or typical position, means a normal balance. Debit usually means the left side, and credit means the right side in an account. In the case of a normal term balance, this equation remains the same but is calculated for a certain period, for example, a quarter. Since costs and assets usually reduce capital, they have normal debit balances. Liabilities and revenues, on the other hand, increase earnings and have normal credit balances.