A commonly used assessment of a company’s short-term liquidity paints too pessimistic a picture of restaurants, according to a new study from the Cornell Center for Hospitality Research. The study, “Short-term Liquidity Measures for Restaurant Firms: Static Measures Don’t Tell the Full Story,” analyzed restaurants using an integrative measure of liquidity, which takes into account both the firm’s operating and financial sources of capital. The Report, written by Linda Canina and Steven Carvell, is available at no charge from the Cornell University Center for Hospitality Research website at http://www.hotelschool.cornell.edu/research/chr/pubs/reports/2007.html. Canina and Carvell are both associate professors at the School of Hotel Administration, and Carvell is associate dean of academic affairs at the school.
Liquidity measures attempt to gauge a company’s ability to cover its short-term financial obligations. The most common approach is to apply static measures, such as the current ratio or the quick ratio. But those measures assume that the company’s current assets are being sold.
In contrast, the dynamic measures take into account a company’s ability to generate operating capital—that is, to cover its obligations and continue to operate. “We compared restaurant and manufacturing firms using both static measures of liquidity and dynamic measures,” said Canina. “The static measures imply that manufacturing companies are far more liquid than are restaurant companies, but the integrative framework told a different story.”
In the dynamic test, restaurant firms were shown to be more liquid than were manufacturing firms, based on their financial and operating liquidity. “Our analysis suggests that financial analysts, creditors, and managers should evaluate both dynamic liquidity measures and static measures in assessing short-term liquidity,” Canina added. “We believe that this finding that restaurants, particularly owner-operator firms, have high operating liquidity should be an argument for favorable financing terms, even though static ratios make restaurants seem like poor short-term risks.”
