Useful Ratios for Liquidity Analysis for Nonprofits

by Eric S. Taylor, CPA, CGFM, Audit Partner

Posted on November 14, 2023

Liquidity ratios are useful tools that can be used to assess a nonprofit organization’s ability to cover its short-term financial obligations and to analyze its financial situation. Liquidity is the ability to convert assets to cash in a very short time period.  Analyzing it can help an organization determine financial strategies on a go-forward basis for the overall improvement of its fiscal well-being.

Internally, liquidity ratios can be used to compare an organization’s liquidity between different accounting periods. Externally, they can be used to compare an organization’s liquidity to that of a similar organization within the same industry. Lenders and donors can use liquidity ratio results to determine how liquid an organization is when making decisions on whether to engage financially with the organization. Poor liquidity can hinder an organization’s ability to meet payroll obligations, pay vendors on a timely basis, pay off its debt obligations timely, or meet the goals of its mission. Monitoring liquidity ratios can help an organization make strong financial decisions to avoid poor liquidity.

Below are a few liquidity ratios and corresponding benchmarks that can be utilized by a nonprofit organization.

Current Ratio – Current Assets/Current Liabilities:

This calculation is used to measure an Organization’s ability to pay back its short-term financial obligations. This value should be at least 1.5, with a higher number being better.

Cash Ratio – (Cash + Marketable Securities)/Current Liabilities:

This calculation measures the Organization’s ability to pay short-term liabilities with its cash and cash equivalents. This value should be at least 1.0, with a higher number being better.

Quick Ratio – (Cash + Marketable Securities + Accounts Receivables)/ Currents Liabilities:

This calculation is used to measure an Organization’s ability to pay back its short-term obligations with its most liquid assets. This value should be at least 1.0, with a higher number being better.

Working Capital Ratio – Current Assets minus Current Liabilities:

This calculation is used to assess how well an Organization is utilizing its working capital to sustain or even grow its operations.  This value should be positive, with a higher number being better.

Operating Reserve Ratio – (Unrestricted Operating Reserves/Total Annual Expenses) x 12:

This ratio is used to help measures the number of months an Organization can operate without incoming revenue.  The benchmark for this value should be a minimum of 3 months.

Although liquidity ratios are not the only tools used to assess the financial health of an organization, they can certainly play a key role in the process.   They should be strongly considered when trying to move an organization toward a more fiscally sound direction.

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