What does the term 'liquidity' refer to in finance?

Liquidity in finance refers to the ability of an organization to meet its short-term obligations using its most liquid assets. These obligations may include paying bills, salaries, and other immediate financial commitments. When a company is said to have high liquidity, it means that it can quickly convert its assets into cash without significant loss of value, enabling it to cover its current liabilities effectively.

This concept is essential in assessing a company's financial health because if a business lacks liquidity, it may face difficulties in meeting its obligations even if it has substantial overall assets, which could be tied up in less liquid forms such as inventory or long-term investments. Therefore, the focus on current obligations emphasizes the necessity for readily available cash or equally liquid assets to ensure smooth daily operations and financial stability.