The days-cash-on-hand ratio and current ratio both are rough measures of liquidity. The best way to assess liquidity is to construct a cash budget.

• A. True
• B. False
• C. They measure profitability
• D. They measure efficiency

Answer: (A)

Liquidity is about the ability to meet short-term obligations with cash as they come due. The days-cash-on-hand ratio and the current ratio give quick, static snapshots based on current assets and current liabilities, but they don’t reveal when cash will actually flow in or out. A business can look reasonably liquid on a ratio, yet face a cash shortfall if receipts aren’t timing- synchronized with payments. A cash budget, by contrast, forecasts cash receipts and disbursements over a future period (often monthly), showing expected cash balances, timing gaps, and whether additional financing will be needed. This forward-looking, timing-sensitive view makes the cash budget the most effective tool for managing liquidity, since it helps anticipate shortfalls, plan financing, and coordinate operations with financing decisions. While the ratios still provide useful quick checks, they don’t replace the actionable insight gained from a cash budget. They do not measure profitability or efficiency, which are separate concerns; liquidity focuses on cash flow timing and availability. Therefore, constructing a cash budget is the best way to assess liquidity.