Cash Is King in an Illiquid and Capital-Opaque World

Seven Pitfalls of Business Risk Management, Part 2 of 4

This multipart series is intended to help executives better mitigate their risks and execute their strategies; it highlights core topics where errors can create operational and franchise risks for even the best-run firms. 

The third pitfall for executives to avoid is misunderstanding their capital positions. “Capital” is different from “cash”: It is comprised of both assets and liabilities on the balance sheet. To avoid liquidity traps and ensure robust capital buffers, top executives must have a deep understanding of both the quality and types of their firm’s assets and liabilities. 

The fourth pitfall to avoid is the unwarranted assumption that there will always be abundant market liquidity. The cause of many potential losses in the financial markets and on business balance sheets is liquidity risk, which is the inability to buy or sell assets as needed due to a lack of demand in a crisis. This makes maintaining adequate cash reserves a mission-critical priority.