Chartered Financial Analyst (CFA) Level 1 Practice Exam

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What aspect of financial management do liquidity ratios specifically address?

Equity financing
Cash flow management
Long-term investments
Debt structuring

The correct answer is: Cash flow management

Liquidity ratios specifically focus on a company's ability to meet its short-term obligations and measure how quickly assets can be converted into cash. This aspect is integral to cash flow management, as these ratios analyze a firm’s financial health in terms of liquidity. Key liquidity ratios, such as the current ratio and quick ratio, help assess whether a company has sufficient resources to cover its immediate liabilities. By maintaining healthy liquidity ratios, a firm can ensure that it can navigate unexpected expenses or downturns without sacrificing its operational stability. Therefore, understanding liquidity ratios provides valuable insights into a company's cash flow management practices, highlighting its readiness to address short-term financial challenges.