The current ratio calculator is a straightforward tool for calculating the current ratio, which is used to assess a company’s liquidity. Note that the current ratio is frequently referred to as the working capital ratio, so don’t be fooled by the varied names! We shall explain what a current ratio is in the paragraph below.
This article should also assist you in answering the following questions:
- What is the formula for calculating the current ratio?
- What is the formula for calculating a current ratio?
- What does a good current ratio look like?
What is the formula for calculating the current ratio?
One of the most widely used liquidity ratios is the current ratio. It assesses a company’s ability to cover short-term commitments (those due within one year) with current assets. The current ratio analyses a company’s current total assets to its current total liabilities to determine this capability.
What are assets and liabilities, exactly?
A company’s assets are everything it possesses. Patents, production equipment, inventory, and other items may be included. A company’s liabilities are all of its debts. Trade debts, employee wages, taxes, and dividends are all examples. Current and non-current assets/liabilities exist in businesses. The present ones indicate that they can be converted to cash or paid in less than a year.
The current ratio is called “current” because, unlike other liquidity ratios, it includes all current assets and liabilities (both liquid and illiquid).
The current ratio is based on the idea that a company’s ability to meet its obligations is determined by the value of current assets.
What is the formula for calculating a current ratio?
By dividing current assets by current liabilities, the current ratio is determined. The general formula for the current ratio is as follows:
current ratio = current assets / current liabilities
It’s worth noting that the current ratio’s value is expressed in numbers rather than percentage points.
The exact values of specific elements in this equation can be found in the company’s annual report (balance sheet).
What does a good current ratio look like?
If you’re not sure how to compute the current ratio, try following these steps:
First and foremost, you must examine the analyzed company’s financial statement.
Find the position “Current Assets” in the assets section of the balance sheet prepared in line with the IFRS (International Financial Reporting Standards).
Then look for the position “Current Liabilities” in the section “Liabilities and Equity.”
Simply fill in the required fields in our calculator to acquire the current ratio’s value.
In the following section of the article, we’ll go over how to understand the calculated value.
Example of current ratio calculation
Take a look at this example of calculating the current ratio.
The owner of John Automobiles has applied for a loan to help fund the facility’s expansion. The bank wants to examine John Automobiles’ present financial status in order to assess its legitimacy. A current ratio is one of the indicators that is being analysed.
The balance statement of John Automobiles shows $40,000 in current assets and $200,000 in current liabilities.
The current ratio is therefore 0.2.
John Automobiles is unlikely to acquire the loan because it is substantially below the desirable level of 1.0.
What is a good current ratio?
The value of the current ratio (working capital ratio) is straightforward to interpret.
It describes the relationship between a company’s current assets and current liabilities. To offer an example, a current ratio of 3 indicates that the company’s current assets exceed its current liabilities by 3 times.
People frequently believe that the greater the current ratio, the better. This is based on the simple premise that a greater current ratio indicates that the company is more solvent and can more readily satisfy its obligations.
However, you should be aware that a high current ratio is not always a favourable thing for investors. A abnormally high current ratio may indicate that the company is inefficiently using its current assets or is ignoring possibilities to get cash from external short-term finance sources. If this is the case, we can expect a significant drop in future earnings reports.
A current ratio of less than 1.0 is generally thought to signify insolvency. However, it is dependent on the circumstances. Even if the current ratio is less than one, the corporation may be able to pay its obligations in some cases. You should be aware that allowable current ratios differ by industry.
As a result, it is usually a good idea to compare the current ratio acquired to that of other organisations in the same industry. Furthermore, it is desirable to determine the present ratio’s trend. Its falling value over time could be one of the first signs of financial difficulties for the organisation (insolvency).
The current ratio vs. the quick ratio
It’s possible that the current ratio and the quick ratio are interchangeable (acid ratio).
Both of these measures are used to assess a company’s liquidity, although their algorithms are different. The current ratio considers all current assets in the numerator, whereas the fast ratio just examines liquid assets in the numerator (cash and cash equivalent, marketable securities, accounts receivable).
It’s worth noting that while the current ratio is easier to compute, it’s not always as useful as the quick ratio because it doesn’t distinguish between different forms of assets’ liquidity.