Have you ever noticed that there are a lot of terms related to money that use liquid as a metaphor for money? I started collecting these a few months ago and I’m up to 13. Did I miss any?
When you look at your balance sheet, one side summarizes your assets – the things you own. A portion of those assets are either cash, or could very quickly be turned into cash: accounts receivable, inventory.
Those are liquid assets. Cash and almost-cash is a liquid!
You have undoubtedly heard the term cash flow. Money comes into your business from customers and from sources of financing. Money goes out of your business to employees, suppliers of inventory, buying stuff like equipment and buildings, and previous sources of financing.
Money is flowing in and out like the tides. OK, maybe not nearly as predictable as the tides. And not nearly as balanced as the tides, or so it seems some days. But cash flow is liquid!
In the now-ubiquitous Business Model Canvas, one of the key blocks dealing with money is Revenue Streams. The notion here is that your river of business should ideally be fed by multiple streams of revenue, the incoming tide of cash flow (to mix metaphors on bodies of water).
Cash from revenue is liquid!
Solvent and Insolvent
The balance between what you own and what you owe on your balance sheet is pretty important. If you have accumulated debt but you have lots of liquid assets to pay debt when it’s due, you are solvent. In chemistry a solvent is a liquid capable of dissolving another substance. For example, water is a solvent for salt.
Bankruptcy happens when debts can no longer be paid with assets. Your company becomes insolvent. Your liquid assets can’t dissolve those debts.
Illiquid Stock, Liquidity Event, Liquidation
Equity investors buy stock in your private company. That private stock is not traded on a stock market – it can’t easily be turned into cash – so it is illiquid.
When some day your company is sold for a zillion dollars to a larger company, the sale is a happy liquidity event. It turns illiquid stock into liquid cash – investors cheer!
Or, some day your company is shut down and its illiquid assets are sold at a “fire sale” – this is liquidation, an unhappy liquidity event. Investors boo.
Excess Cash Sloshing, Then Funding Dries Up When Investors Freeze
I’ve been through a few up and down investment cycles. I was trained early on in the Patterson Cycle – Accel Partners founder Arthur Patterson’s analysis of the cyclical nature of enthusiasm for tech growth companies dating back to the 1960s.
More generally, institutional investors cyclically drive a period of rising enthusiasm because of increasing investor liquidity – more cash is available to invest, and excess demand drives prices of investments higher. Near the top of the cycle there is lots of investor cash sloshing around, looking for places to flow. Then something bad happens: a stock market crash (1987) or grinding decline (2000), a war (1990), a major bankruptcy (2008). Suddenly, funding dries up as investors freeze in reaction to unanticipated negative events.
Investor cash is a liquid.
Washed Out Shareholders, Extreme Dilution
Private stock prices don’t always go up.
Sometimes venture capitalists provide years of small follow-on investments in a company that isn’t making progress. Or, they pay way too high a price when the promised future of a baby unicorn seems so rosy. Then execution fails to deliver on the promise.
In either case when the company needs a lot more money from investors, the price per share can be down. Sometimes it’s so far down – a private stock “market” crash of 90%+ – that old investors who no longer participate, and former employees with old stock options are washed out. Their stock is close to worthless. That just happened to me on a very old investment.
A wash-out is an extreme case of dilution. When you add more liquid – say, more tonic to a gin and tonic – the strength of the dissolved substance goes down, which is dilution. Or in the case of equity investment, when you add new liquid cash equity investment, the ownership percentage of previous shareholders goes down. As I wrote elsewhere, Dilution Happens.
Just like rain, lots of the time liquid cash is good, but sometimes too much isn’t actually a good thing.