What is Current Ratio?
Current ratio, also known as the ‘working capital ratio’, is a tool to measure the liquidity of a company. It indicates the ability of a company to generate cash from current assets to pay current liabilities which becomes due in short term.
Current Ratio Formula
The mathematical expression of the formula of the current ratio is as follows:
Components of Current Ratio
There are two components in a current ratio
Current assets are those assets that can be converted into cash within a short-term period of not more than 1 financial year. Following are sub-components of current assets:
- Current Investments
- Inventories / Stocks
- Debtors/ bills receivables
- Cash & cash equivalents
- Short term loans & advances, etc.
Current liabilities include debts that will become due in a short period of time. Following are the sub-components of current liabilities:
- Short-term borrowings
- Creditors/ bills payables
- Short-term provisions
- Proposed dividend, etc.
How to use Calculator of Current Ratio?
The current ratio calculator is easy to calculate the Current Ratio. We can calculate it by using the following calculator by putting values of the components of current assets and liabilities.
Current Ratio Interpretation/Analysis
The current ratio is useful to investors, creditors to get information about the liquidity position of a company. If the current ratio is less than 1, it indicates the existence of liquidity problems in the company.
CR <1: It indicates that current assets are not sufficient to pay the current liabilities of the company. It may give an indication that there are short-term liquidity problems in the company. Indirectly, it has a high risk of bankruptcy.
CR =1: It indicates that current assets are just sufficient to pay the current liabilities of the company. It may anytime give rise to liquidity issues and hence there is a risk of bankruptcy here too.
CR >1: It indicates that current assets are sufficient to pay the current liabilities of the company. An ideal current ratio may differ from business to business.
Now, the question is how much should it be? You may read an in-depth post about the Current Ratio.