MASTERCLASS – Current Ratio – A Sign of Business Health

Current Ratio

Current Ratio

The Current Ratio is a “liquidity ratio” that measures a company’s ability to pay its short-term obligations, that is, in the next 12 months. In other words it is a company’s ability to pay out short-term liabilities (debts and payables) with its short-term assets (cash, inventory, receivables).

We calculate the ratio as follows:

Current Ratio = (Current Assets / Current Liabilities)

The higher the current ratio, the more capable the company is capable of paying its obligations, and over 2 is generally desired. A ratio under 1 suggests that the company would be unable to pay off its obligations if they came due at that point. While this shows the company is not in good financial health, it does not necessarily mean that it will go bankrupt – as there are many ways to access financing – but it is definitely not a good position to be in for too long.

The current ratio also gives a sense of the “efficiency” of a company’s operating cycle, that is, its ability to turn its product into cash. Companies that have trouble being paid on their receivables on time or with long inventory turnover can run into liquidity problems because they are unable to alleviate their obligations. Because business operations differ in each industry, it is always more useful to compare companies within the same industry.
The ratio is similar to the acid-test ratio except that the acid-test ratio takes out inventory and prepaids/deposits as assets that can be liquidated. The components of current ratio (current assets and current liabilities) can be used to calculate working capital (difference between current assets and current liabilities). Working capital is also used to calculate the working capital ratio, which is working capital as a ratio of sales.

Advertisements

About SuperBenefitnews

Self-Managed Superannuation Service Providers in Australia. SuperBenefit provides a wholistic SMSF assistance, education and administration service continuum - 1. “assistance” is help of whatsoever nature where our overall SMSF experience and knowledge enables us to provide assistance/help without any legal (or “license”) limitations. 2. “education” involves providing knowledge through teaching, coaching and mentoring about all matters SMSF, including (but not limited to) investment issues such as equities and property, 3. “administration” encompasses all admin aspects of legally required SMSF trustee and member record keeping including (but not limited to) audit and ATO matters. In keeping with our key point that SuperBenefit does not provide Financial Advice, where issues arise from 1, 2, and/or 3 above Indicate a need for a legally authorized provider (such as a Financial Adviser) and the client does not have their own service provider, the client can utilize SuperBenefit’s ‘Connect Assist’ … SuperBenefit, in itself, does not provide Financial Advice, but it does provide the wherewithal for great SMSF service. WE do not provide Financial Advice or any other service that requires a legally authorized provider. However, where such advice or service is required we have our ‘Connect Assist’, a SuperBenefit resource we use to connect clients to a Licensed Advisor or other legally authorised service provider. Call us 0407 361 596, no obligation FREE Connection call to see how we can help you!
This entry was posted in Investing - Stock Fundamentals, Masterclass Investment, SMSF Investing and tagged , , . Bookmark the permalink.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s