What is a 'Liquidity Cushion'

A liquidity cushion refers to the cash or highly liquid assets that an individual or company might hold to meet unexpected demands for cash during a liquidity crisis.

BREAKING DOWN 'Liquidity Cushion'

A liquidity cushion of cash reserves or money market instruments, can prevent a company from having to sell more illiquid securities or other investments – possibly at a loss – to raise cash to meet short-term obligations like repaying loans, bills or wages. A liquidity cushion is sometimes called a "rainy day fund."

Example of a Liquidity Cushion

Automobile companies, for example, are wise to keep a bit of a cash buffer, given that their industry is so cyclical. The Ford Motor Company, for example, having long understood that financial health is key to its success, mortgaged all the company’s assets for $23.6 billion in loans in November 2006, to finance an overhaul and give it a cushion to protect itself against a recession.

This shrewd move was to prove Ford’s salvation. Unlike General Motors and Chrysler, it did not need to be bailed out by the government during the global financial crisis. Nor did Ford have to give any concessions to union workers as a condition for Federal aid. Moreover, its self-sufficiency also turned into a valuable marketing tool.

Ford is a quite a highly leveraged company, and while it could do more to cushion itself against another recession, it has $12 billion in cash set aside for a rainy day. That looks prudent compared to electric car and energy storage manufacturer Tesla, Inc, which is running out of cash, because it has no liquidity cushion.

Tesla was once again the most shorted U.S. equity in March 2018, as traders bet on it going bankrupt unless Elon Musk can pull a rabbit out of a hat.

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