Quick Liquidity, Current Liquidity, and Operating Cash Flow

1.04.2020
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Financial Parameters in an Insurance Company – Quick Liquidity, Current Liquidity, and Operating Cash Flow

Quick liquidity, current liquidity, and operating cash flow are parameters of an insurance company used to determine the financial strength of the company. Each of these parameters is important for the companies and they put their best on these factors to strengthen their financial status. We will discuss the meaning and functioning of these three parameters below.

Quick Liquidity

The quick liquidity of an insurance company is the total amount of the company’s quick assets divided by the sum of its net liabilities and its reinsurance liabilities. Quick assets include cash, corporate and government bonds nearing maturity, equities, and short-term investments. The quick liquidity ratio is the measure of a company’s quick liquidity which can be availed in a short period of time.

Also known as the acid-test ratio, quick liquidity ratio further filters the current ratio by calculating the level of the most liquid current assets accessible to cover current liabilities. The current ratio is less conservative than the quick ratio as the quick ratio excludes inventory and other current assets, which are usually more challenging to convert into cash. A lower quick ratio means a less liquid current position.

Current Liquidity

Current liquidity is the whole amount of cash and unaffiliated holdings compared with net liabilities and ceded reinsurance balances that stand payable. The current liquidity is presented as a percentage that tells us about the total percentage of the company’s liabilities that can be covered with liquid assets. A low ratio indicates that the insurer is dependent on new premiums to cover existing liabilities.

An important step to determine whether an insurer is at risk is to understand the type of liabilities that an insurance company has taken on by underwriting policies and ceding reinsurance. Increases in claims can be better dealt with if the insurers are able to cover their liabilities with cash and other readily-available financial sources. This type of analysis is known as liquidity analysis. As banks are put through stress tests to determine their capitalization, insurance companies also are put into multiple situations in order to discover if the value of liquidity that an insurer has will cover liabilities.

Operating Cash Flow

The volume of cash produced by regular operating activities of a business in a specific period of time is called Operating Cash Flow or OCF. OCF is calculated by starting the addition from net income, adding non-cash items and adjusting any changes in net working capital to reach the total amount of cash produced or utilized in that period of time. While conducting a financial review, a company’s performance and financial health can be properly assessed if operating cash flow is used along with net income, free cash flow (FCF), and other metrics.
Operating Cash Flow formula:

Formula (short form):
Operating Cash Flow = Net Income + Non-Cash Expenses – Gain in Working Capital

Formula (long form):
Operating Cash Flow = Net Income + Depreciation + Stock-Based Compensation + Deferred Tax + Other Non Cash Items – Increase in Accounts Receivable – Increase in Inventory + Increase in Accounts Payable + Increase in Accrued Expenses + Increase in Deferred Revenue

These formulas are just an idea on how you can calculate operating cash flow by yourself but there are many elements that are not covered in these formulas such as any additional non-cash items, additional changes in current assets or current liabilities that are not listed above. An important aspect while making these calculations is making sure that all items are accounted for, which may differ from business to business. In financial modeling, calculating cash flow operations can be very complex.

What is Quick Liquidity?

The quick liquidity of an insurance company is the total amount of the company’s quick assets divided by the sum of its net liabilities and its reinsurance liabilities. Quick assets include cash, corporate and government bonds nearing maturity, equities, and short-term investments.

What is Current Liquidity?

Current liquidity is the whole amount of cash and unaffiliated holdings compared with net liabilities and ceded reinsurance balances that stand payable. The current liquidity is presented as a percentage that tells us about the total percentage of the company’s liabilities that can be covered with liquid assets.

What is Operating Cash Flow?

The volume of cash produced by regular operating activities of a business in a specific period of time is called Operating Cash Flow or OCF. OCF is calculated by starting the addition from net income, adding non-cash items and adjusting any changes in net working capital to reach the total amount of cash produced or utilized in that period of time.

What should be taken care of while calculating these?

An important aspect while making these calculations is making sure that all items are accounted for, which may differ from business to business. In financial modeling, calculating cash flow operations can be very complex.

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