What financial condition is highlighted as a risk for ABC?

• A. High profitability
• B. High risk of regulatory penalties
• C. Stable cash reserves
• D. Weakened liquidity

Answer: (D)

The concept being tested is liquidity risk—the company’s ability to meet short-term obligations with its available cash or easily convertible assets. When liquidity is weakened, ABC may struggle to pay suppliers, employees, or debt as it comes due, which can lead to more expensive borrowing, missed payments, or even default. This is a real operating risk because even a profitable business can run into trouble if cash isn’t available when needed.

High profitability isn’t the same as financial strength in the near term; profits don’t guarantee cash flow, especially if cash is tied up in receivables or inventory. Stable cash reserves imply good liquidity and reduce the risk, while a high risk of regulatory penalties is a compliance issue, not a liquidity issue. So the highlighted risk is weakened liquidity.