Definition
The current ratio is current assets divided by current liabilities. It measures whether a business can meet obligations due within twelve months from assets expected to turn into cash in the same period. A ratio of 1.5 means there is 1.50 of current assets for every 1 of current liabilities; below 1 signals possible liquidity pressure.
How it works
Lenders and suppliers look at the current ratio to judge short-term solvency. A ratio between about 1.2 and 2 is common for trading businesses, but the right level depends on how fast inventory sells and customers pay. A very high ratio can mean idle cash or slow-moving stock.
Because inventory and prepayments may not turn into cash quickly, analysts also use the stricter quick ratio. Both are computed with the financial ratio calculator, and Ledgeriano reports 19 ratios with comparison to the previous year or period.
Formula
Current ratio = Current assets / Current liabilities
Example: current ratio of a distributor
A distributor has cash of 40,000, receivables of 90,000 and inventory of 120,000, so current assets are 250,000. Payables, VAT and the current part of a loan total 160,000. The current ratio is 250,000 / 160,000 = 1.56.